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Title: FCF

Essay Details:

Subject: Business
Author: John N
Date: August 3, 2014
Level: University
Grade: A
Length: 4 / 912

Essay text:

However it is dependant on the debt-equity ratio (capital structure) of the firm as well as the dividend policy (payout policy) of the firm. If the firm has adequate unsheltered taxable income, increasing debt increases interest and lowers taxes. This is because interest payable is deducted from EBIT before taxes are calculated. The amount by which interest expense reduces taxes is called the Interest Tax Shield (ITS), where ITS = Interest x corporate tax rate = I x TC As taxes reduce, the cash flows available to the shareholders and debtholders increase. So having more debt on the capital structure increases cash flows to the shareholders and debtholders in the current period, but increasing debt could be a suboptimal strategy for a firm in the long run because of higher expected distress costs associated with more debt...

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