Financial Management & Analysis Essay Example | Topics and Well Written Essays - 1500 words

Financial Management & Analysis - Essay Example Since a business organization is susceptible to changing economic condition, changing consumers' choice, availability of alternative products in the market, its operational and marketing aspects of performance is dynamic in nature. This non static feature of the functional activities makes capital structure planning one of the most challenging tasks. (Brealey and Myers, 2002) Debt and equity financing vary due to several factors. Since equity entitles one to ownership it demands greater degree of accountability and a much higher degree of risk appetite. On the other hand debt does not give any ownership right and demands relatively lower degree of risk. Debt financing gets some advantage from the standpoint of taxation. In real business situation due to varying degree of complexity associated with payment patterns and more importantly the paying capability, different debt instruments are constructed. A very high degree of dependence on equity financing does not allow the firm to take the advantage of tax benefit; on the other hand too much dependence on debt makes the firm vulnerable to buyout. The buyout threat can come from many ways. For instance, due to very low payment of dividend the share holders may no longer be interested in the continuation of the situation and instigate hostile takeover by other firms. The other type of threat can come in case the company faces default risk. (Brealey, and Myers, 2002) When the firm is unable to maintain a good credit history i.e. a record of timely repayment of interest and principle to the lenders - its possibility of managing a good lender becomes more and more difficult. Higher degree of uncertainty associated with the firms repayment virtually forces it to take loan with several bitter clauses like higher rate of interest, higher sensitivity of term with rate i.e. the firm has to 'buy' duration of the loan payable at a higher cost of interest. So dependence on debt also triggers the exposure to risk. This is the reason for which a leveraged firm (a highly debt dependent firm) usually have high-risk indicating parameter, commonly known as beta. Beta determines the company's risk exposure with respect to overall market. People will take additional risk if and only if they are proportionately paid i.e. paid something more than that they could have got without taking any additional risk. So more the risk involved, in repayment more will be the cos t of debt. So it is very important to determine what fraction of capital will be through equity financing and what fraction will be through debt financing. Optimum capital structure can said to be that combination of debt and equity financing that will maximize their combined positive effect and minimize the negative ones. So the importance of capital structure cannot be overstated for the sustainability of the organization. The financial health of Jessops, the photography retailer of UK is going through a critical stage due to several reasons. Entry of low cost substitute products and overall economic slowdown are the two main apparent reasons behind it. (Jessops: Reports and Accounts", 2008) It is prevalent from the financial structure of the company that it is a debt ridden company. The debt to equity ratio is found out to be around -3.67. Debt-equity ratio is measured by the following formula: total liabilities/ total assets. Here total liabilities is '