What happens to the stock of capital when the market increases?
Increases in capital increase the marginal product of labor and boost wages at the same time they boost total output. An increase in the stock of capital therefore tends to raise incomes and improve the standard of living in the economy. Capital is often a fixed factor of production in the short run.
What determines the amount of capital firms will want to hold?
The quantity of capital firms will want to hold depends on the interest rate. The higher the interest rate, the less capital firms will want to hold. The demand curve for capital for the economy is found by summing the demand curves of all holders of capital.
How can a company raise capital to expand?
When looking to expand, a company can raise additional capital by applying for a new loan or opening a line of credit. This type of funding is referred to as debt capital because it involves borrowing money under a contractual agreement to repay the funds at a later date.
What must a firm do when it is about to expand?
A firm is about to double its assets to sere its rapidly growing market. It must choose between a highly automated production process and a less automated one. it also must choose a capital structure for financing the expansion.
What is the most important factor in production?
In terms of contribution to total income, the single most important factor of production is: labor . The accepted way (s) to view the labor market is (are): all of the above-as a single national market or as a focus on particular jobs and geographic area.
What is an obligation to make future payments?
An obligation to make future payments is. a liability. A payment made to people who agree to postpone their use of wealth is: A payment made to people who agree to postpone their use of wealth is: An amount that would equal a particular future value if deposited today at a specific interest rate is the: present value.
What is marginal decision rule?
marginal decision rule. The change in total cost when one more unit of a factor of production is added is: marginal factor cost. If an increase in the use of one factor of production increases the demand for the other, the two factors are. complementary factors of production.
How does capital affect the economy?
Increases in capital increase the marginal product of labor and boost wages at the same time they boost total output. An increase in the stock of capital therefore tends to raise incomes and improve the standard of living in the economy. Capital is often a fixed factor of production in the short run.
How does change in the demand for capital affect the interest rate?
A change in the interest rate, in turn, affects the quantity of capital demanded on any demand curve.
What is a lender?
Lenders are consumers or firms that decide that they are willing to forgo some current use of their funds in order to have more available in the future. Lenders supply funds to the loanable funds market. In general, higher interest rates make the lending option more attractive.
How is interest rate determined in a market?
The interest rate is determined in a market in the same way that the price of potatoes is determined in a market: by the forces of demand and supply. The market in which borrowers (demanders of funds) and lenders (suppliers of funds) meet is the loanable funds market.
What happens to the marginal product of labor?
The ratio of the marginal product of labor to its price goes down, and the firm substitutes capital for labor. Similarly, an increase in the price of capital, all other things unchanged, would cause firms to substitute other factors of production for capital. The demand for capital, therefore, would fall.
How does technological change affect capital?
Technological Change. Technological changes can increase the marginal product of capital and thus boost the demand for capital. The discovery of new ways to integrate computers into production processes, for example, has dramatically increased the demand for capital in the last few years.
What is demand for capital?
The Demand for Capital. A firm uses additional units of a factor until marginal revenue product equals marginal factor cost. Capital is no different from other factors of production, save for the fact that the revenues and costs it generates are distributed over time.
How do companies raise capital?
Companies can raise capital through either debt financing or equity financing. Debt financing requires borrowing money from a bank or other lender or issuing corporate bonds. The full amount of the loan has to be paid back, plus interest, which is the cost of borrowing. Equity financing involves giving up a percentage of ownership in a company ...
What is the capital needed to run a business?
Running a business requires a great deal of capital. Capital can take different forms, from human and labor capital to economic capital. But when most people hear the term "financial capital," the first thing that comes to mind is usually money.
What is debt capital expense?
This expense, incurred just for the privilege of accessing funds, is referred to as the cost of debt capital. Interest payments must be made to lenders regardless of business performance. In a low season or bad economy, a highly leveraged company may have debt payments that exceed its revenue.
What are the pros and cons of debt capital?
Because corporate bonds generally come with a high amount of risk —the chances of default are higher than bonds issued by the government—they pay a much higher yield. The money raised from bond issuance can be used by the company for its expansion plans .
What are the two types of capital that a company can use to fund operations?
There are two types of capital that a company can use to fund operations: debt and equity. Prudent corporate finance practice involves determining the mix of debt and equity that is most cost-effective. This article examines both kinds of capital.
How does debt capital work?
Debt capital comes in the form of loans or issues of corporate bonds. Equity capital comes in the form of cash in exchange for company ownership, usually through stocks.
What is preferred equity?
Preferred equity has a senior claim on a company’s assets compared to common equity, making the cost ...
Why is CAPM preferred?
B) the use of the CAPM is preferred, because it directly considers risk and the effect of inflation on the stock prices.
Is cost of capital static or dynamic?
False. The cost of capital is a static concept and it is not affected by economic and firm-specific factors such as business risk and financial risk. False. The cost of capital is a dynamic concept and it is affected by economic and firm-specific factors such as business risk and financial risk.
Is the cost of preferred stock higher than the cost of long term debt?
False . The cost of preferred stock is typically higher than the cost of long-term debt (bonds) because the cost of long-term debt (interest) is tax deductible. True. The cost of preferred stock is the ratio of the preferred stock dividend to a firm's net proceeds from the sale of the preferred stock.
What is a firm N?
Firm N is a relatively new company in a new and growing industry. Its markets and products have not stabilized, so its annual operating income fluctuates considerably. However, N has substantial growth opportunities, and its capital budget is expected to be large relative to its net income for the foreseeable future.
Can a company repurchase stock?
A company can repurchase stock to distribute a large one-time cash inflow, say from the sale of a division, to stockholders without having to increase its regular dividend. e. Stockholders pay no income tax on dividends if the dividends are used to purchase stock through a dividend reinvestment plan. e.
Why is short term debt considered aggressive?
Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive strategy because of the inherent risks associated with using short-term financing. b. If a company follows a policy of "matching maturities," this means that it matches its use ...
What does a cash budget not include?
Cash budgets do not include financial items such as interest and dividend payments. b. Cash budgets do not include cash inflows from long-term sources such as the issuance of bonds. c. Changes that affect the DSO do not affect the cash budget.
What is the risk of borrowing with short term credit?
The risk to a firm that borrows with short-term credit is usually greater than if it borrowed using long-term debt. This added risk stems from the greater variability of interest costs on short-term debt and possible difficulties with rolling over short-term debt. d.
What is commercial paper?
Commercial paper is a form of short-term financing that is primarily used by large, strong, financially stable companies. b. Short-term debt is favored by firms because, while it is generally more expensive than long-term debt, it exposes the borrowing firm to less risk than long-term debt.
Do conservative companies have short term debt?
a. Conservative firms generally use no short-term debt and thus have zero current liabilities. b. A short-term loan can usually be obtained more quickly than a long-term loan, but the cost of short-term debt is normally higher than that of long-term debt. c.
Funding Operations with Capital
Debt Capital
- Debt capital is also referred to as debt financing. Funding by means of debt capital happens when a company borrows money and agrees to pay it back to the lender at a later date. The most common types of debt capital companies use are loans and bonds, which larger companies use to fuel their expansion plans or to fund new projects. Smaller business...
Equity Capital
- Equity capital is generated through the sale of shares of company stock rather than through borrowing. If taking on more debt is not financially viable, a company can raise capital by selling additional shares. These can be either common shares or preferred shares. Common stock gives shareholders voting rights but doesn't really give them much else in terms of importance. They a…
The Bottom Line
- Companies can raise capital through either debt or equity financing. Debt financing requires borrowing money from a bank or other lender or issuing corporate bonds. The full amount of the loan has to be paid back, plus interest, which is the cost of borrowing. Equity financing involves giving up a percentage of ownership in a company to investors, who purchase shares of the co…