Mild Leverage Practices

A company may finance its assets through debt and equity. The proportion of long-term debt and equity is kwon as capital structure.
Leverage is ability of company to enhance its value by using debt in it’s financing. There are many theories which purports that use of debt in capital structure enhances the firm value. Reason behind this is tax deductibility benefit attached to debt financing, which makes the debt as cheaper source of financing than equity. It reduces the average cost of capital. As the value of business is the capitalized value of it’s earning, capitalized at above average cost of capital, in turn it increases the firm value. But there are some costs of debt financing these are agency cost, bankruptcy cost etc. these costs constraints the firm value if debt is used beyond the moderate level. This raise the importance of an optimal capital structure, where overall cost of capital minimizes and firm value maximizes.

But, empirical findings lead us to in a different era of capital structure behavior. There are some companies which uses equity as major source of financing. Debt is preferred very least; even there are some companies which are fully equity financed. Hence recently zero leverage concepts come in vague.