Capital Structure

While reading section #29 last night, I ran across this, page 74 of Schweser material (Book 3): +Taking on the commitment to make fixed interest payments through debt financing sends a signal that management has confidence in the firm’s ability to make these payments in the future. +Issuing equity is typically viewed as a negative signal that managers believe a firm’s stock is overvalued. So in deciding whether to issue debt/equity (I know it’s all about WACC), but do these two statements really go through managers minds when making those decisions?

Absolutely, but maybe not for those exact reasons. In a lot of cases, the last thing management wants to do is dilute equity as it’s not usually taken lightly by shareholders. If a company can raise debt to pay their obligations, existing shareholders feel more confident that the company can pay the defined interest obligations. Even better if inflation is rising; the company issues debt that pays historical interest that doesn’t account for the reduction in purchasing power (unless they are step-up notes).