Question

Consider a change to the tax law that allows a company to increase its depreciation charges. According to the static theory of capital structure, the optimal level of debt should be lower than it was before the change.
True or False?

Answer 1

Answer:

True

Explanation:

Capital Structure can be defined as the relationship between the various longterm sources financing which are; equity capital, preference share capital and debt capital.

To maximize the intrisic value of a firm, The cost of capital structure must be reduced to the lowest level. by so doing, the optimal capital structure is archived.

Optimal capital structure is the combination of debt and equity that leads to the maximum value of the firm.

Answer 2

Answer:

True.

Explanation:

If tax law allows a company to increase its depreciation charges, even if it seems advantageous, the company needs to keep the optimal level of debt lower than it was before the change.

This is because individualization must be limited, due to the possibility of this company needing to face bankruptcy, especially when the debt is very high. At this point, we can say that if the optimal debt level is not lower than it was before the change, the company will not achieve any benefits from the increase in depreciation charges, but will run the risk of leaving the debt negative in relation to capital.