Questions and Answers
What does the cost of capital depend on in the case of equity capital?
The earnings of the company
Which side of the balance sheet reflects both debt and equity?
Liability side
What kind of bonds have a rate of interest that may be predetermined?
Floating rate bonds
What determines the periodic interest paid by debt instruments?
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Why must a company carefully decide the mix of debt and equity to use?
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Study Notes
Cost of Capital
- A company must pay a price for using equity or debt capital, which may be fixed at the time of borrowing and constitute an obligation.
- Debt instruments typically pay a periodic interest, with a predetermined or variable rate (e.g., floating rate bonds, inflation-indexed bonds).
- The cost of capital may vary depending on the company's earnings, particularly in the case of equity capital.
Capital Structure
- Both debt and equity are reflected in the liability side of the balance sheet, representing the "source of funds".
- A company must carefully determine the optimal mix of debt and equity to be used in the business.
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Description
This quiz covers the concept of cost of capital, including the rates of interest and obligations for companies using debt or equity capital.
