Definition of Personal tax view (of capital structure)

Personal tax view (of capital structure)

The argument that the difference in personal tax rates between
income from debt and income from equity eliminates the disadvantage from the double taxation (corporate
and personal) of income from equity.

After-tax profit margin

The ratio of net income to net sales.

After-tax real rate of return

Money after-tax rate of return minus the inflation rate.

Agency cost view

The argument that specifies that the various agency costs create a complex environment in
which total agency costs are at a minimum with some, but less than 100%, debt financing.

Asymmetric taxes

A situation wherein participants in a transaction have different net tax rates.

Average cost of capital

A firm's required payout to the bondholders and to the stockholders expressed as a
percentage of capital contributed to the firm. Average cost of capital is computed by dividing the total
required cost of capital by the total amount of contributed capital.

Average tax rate

taxes as a fraction of income; total taxes divided by total taxable income.

Bankruptcy cost view

The argument that expected indirect and direct bankruptcy costs offset the other
benefits from leverage so that the optimal amount of leverage is less than 100% debt finaning.

Bankruptcy view

The argument that expected bankruptcy costs preclude firms from being financed entirely
with debt.

Before-tax profit margin

The ratio of net income before taxes to net sales.

Break-even tax rate

The tax rate at which a party to a prospective transaction is indifferent between entering
into and not entering into the transaction.

Capital

Money invested in a firm.

Capital account

Net result of public and private international investment and lending activities.

Capital allocation

decision Allocation of invested funds between risk-free assets versus the risky portfolio.

Capital asset pricing model (CAPM)

An economic theory that describes the relationship between risk and
expected return, and serves as a model for the pricing of risky securities. The CAPM asserts that the only risk
that is priced by rational investors is systematic risk, because that risk cannot be eliminated by diversification.
The CAPM says that the expected return of a security or a portfolio is equal to the rate on a risk-free security
plus a risk premium.

Capital budget

A firm's set of planned capital expenditures.

Capital budgeting

The process of choosing the firm's long-term capital assets.

Capital expenditures

Amount used during a particular period to acquire or improve long-term assets such as
property, plant or equipment.

Capital flight

The transfer of capital abroad in response to fears of political risk.

Capital gain

When a stock is sold for a profit, it's the difference between the net sales price of securities and
their net cost, or original basis. If a stock is sold below cost, the difference is a capital loss.

Capital gains yield

The price change portion of a stock's return.

Capital lease

A lease obligation that has to be capitalized on the balance sheet.

Capital loss

The difference between the net cost of a security and the net sale price, if that security is sold at a loss.

Capital market

The market for trading long-term debt instruments (those that mature in more than one year).

Capital market efficiency

Reflects the relative amount of wealth wasted in making transactions. An efficient
capital market allows the transfer of assets with little wealth loss. See: efficient market hypothesis.

Capital market imperfections view

The view that issuing debt is generally valuable but that the firm's
optimal choice of capital structure is a dynamic process that involves the other views of capital structure (net
corporate/personal tax, agency cost, bankruptcy cost, and pecking order), which result from considerations of
asymmetric information, asymmetric taxes, and transaction costs.

Capital market line (CML)

The line defined by every combination of the risk-free asset and the market portfolio.

Capital rationing

Placing one or more limits on the amount of new investment undertaken by a firm, either
by using a higher cost of capital, or by setting a maximum on parts of, and/or the entirety of, the capital
budget.

Capital structure

The makeup of the liabilities and stockholders' equity side of the balance sheet, especially
the ratio of debt to equity and the mixture of short and long maturities.

Capital surplus

Amounts of directly contributed equity capital in excess of the par value.

Capitalization

The debt and/or equity mix that fund a firm's assets.

Capitalization method

A method of constructing a replicating portfolio in which the manager purchases a
number of the largest-capitalized names in the index stock in proportion to their capitalization.

Capitalization ratios

Also called financial leverage ratios, these ratios compare debt to total capitalization
and thus reflect the extent to which a corporation is trading on its equity. capitalization ratios can be
interpreted only in the context of the stability of industry and company earnings and cash flow.

Capitalization table

A table showing the capitalization of a firm, which typically includes the amount of
capital obtained from each source - long-term debt and common equity - and the respective capitalization
ratios.

Capitalized

Recorded in asset accounts and then depreciated or amortized, as is appropriate for expenditures
for items with useful lives greater than one year.

Capitalized interest

Interest that is not immediately expensed, but rather is considered as an asset and is then
amortized through the income statement over time.

Cash flow after interest and taxes

Net income plus depreciation.

Complete capital market

A market in which there is a distinct marketable security for each and every
possible outcome.

Corporate tax view

The argument that double (corporate and individual) taxation of equity returns makes
debt a cheaper financing method.

Corporate taxable equivalent

Rate of return required on a par bond to produce the same after-tax yield to
maturity that the premium or discount bond quoted would.

Cost of capital

The required return for a capital budgeting project.

Cost of limited partner capital

The discount rate that equates the after-tax inflows with outflows for capital
raised from limited partners.

Dedicated capital

Total par value (number of shares issued, multiplied by the par value of each share). Also
called dedicated value.

Deferred taxes

A non-cash expense that provides a source of free cash flow. Amount allocated during the
period to cover tax liabilities that have not yet been paid.

Depreciation tax shield

The value of the tax write-off on depreciation of plant and equipment.

Double-tax agreement

Agreement between two countries that taxes paid abroad can be offset against
domestic taxes levied on foreign dividends.

Earnings before interest and taxes (EBIT)

A financial measure defined as revenues less cost of goods sold
and selling, general, and administrative expenses. In other words, operating and non-operating profit before
the deduction of interest and income taxes.

Efficient capital market

A market in which new information is very quickly reflected accurately in share
prices.

Equivalent taxable yield

The yield that must be offered on a taxable bond issue to give the same after-tax
yield as a tax-exempt issue.

Foreign tax credit

Home country credit against domestic income tax for foreign taxes paid on foreign
derived earnings.

Hard capital rationing

capital rationing that under no circumstances can be violated.

Human capital

The unique capabilities and expertise of individuals.

Imputation tax system

Arrangement by which investors who receive a dividend also receive a tax credit for
corporate taxes that the firm has paid.

Interest equalization tax

tax on foreign investment by residents of the U.S. which was abolished in 1974.

Interest tax shield

The reduction in income taxes that results from the tax-deductibility of interest payments.

Investment tax credit

Proportion of new capital investment that can be used to reduce a company's tax bill
(abolished in 1986).

Issued share capital

Total amount of shares that are in issue. Related: outstanding shares.

Legal capital

Value at which a company's shares are recorded in its books.

Limited-tax general obligation bond

A general obligation bond that is limited as to revenue sources.

Liquidity theory of the term structure

A biased expectations theory that asserts that the implied forward
rates will not be a pure estimate of the market's expectations of future interest rates because they embody a
liquidity premium.

Long-term debt/capitalization

Indicator of financial leverage. Shows long-term debt as a proportion of the
capital available. Determined by dividing long-term debt by the sum of long-term debt, preferred stock and
common stockholder equity.

Marginal tax rate

The tax rate that would have to be paid on any additional dollars of taxable income earned.

Market capitalization

The total dollar value of all outstanding shares. Computed as shares times current
market price. It is a measure of corporate size.

Market capitalization rate

Expected return on a security. The market-consensus estimate of the appropriate
discount rate for a firm's cash flows.

Net working capital

Current assets minus current liabilities. Often simply referred to as working capital.

Nondiversifiability of human capital

The difficulty of diversifying one's human capital (the unique
capabilities and expertise of individuals) and employment effort.

Opportunity cost of capital

Expected return that is foregone by investing in a project rather than in
comparable financial securities.

Other capital

In the balance of payments, other capital is a residual category that groups all the capital
transactions that have not been included in direct investment, portfolio investment, and reserves categories. It
is divided into long-term capital and short-term capital and, because of its residual status, can differ from
country to country. Generally speaking, other long-term capital includes most non-negotiable instruments of a
year or more like bank loans and mortgages. Other short-term capital includes financial assets of less than a
year such as currency, deposits, and bills.

Outstanding share capital

Issued share capital less the par value of shares that are held in the company's treasury.

Pecking-order view (of capital structure)

The argument that external financing transaction costs, especially
those associated with the problem of adverse selection, create a dynamic environment in which firms have a
preference, or pecking-order of preferred sources of financing, when all else is equal. Internally generated
funds are the most preferred, new debt is next, debt-equity hybrids are next, and new equity is the least
preferred source.

Perfect capital market

A market in which there are never any arbitrage opportunities.

Perfect market view (of capital structure)

Analysis of a firm's capital structure decision, which shows the
irrelevance of capital structure in a perfect capital market.

Perfect market view (of dividend policy)

Analysis of a decision on dividend policy, in a perfect capital
market environment, that shows the irrelevance of dividend policy in a perfect capital market.

Personal trust

An interest in an asset held by a trustee for the benefit of another person.

Pie model of capital structure

A model of the debt/equity ratio of the firms, graphically depicted in slices of
a pie that represent the value of the firm in the capital markets.

Planned capital expenditure program

capital expenditure program as outlined in the corporate financial plan.

Pro forma capital structure analysis

A method of analyzing the impact of alternative capital structure
choices on a firm's credit statistics and reported financial results, especially to determine whether the firm will
be able to use projected tax shield benefits fully.

Progress review

A periodic review of a capital investment project to evaluate its continued economic viability.

Progressive tax system

A tax system wherein the average tax rate increases for some increases in income but
never decreases with an increase in income.

Real capital

Wealth that can be represented in financial terms, such as savings account balances, financial
securities, and real estate.

Short-term tax exempts

Short-term securities issued by states, municipalities, local housing agencies, and
urban renewal agencies.

Signaling view (on dividend policy)

The argument that dividend changes are important signals to investors
about changes in management's expectation about future earnings.

"Soft" Capital Rationing

capital rationing that under certain circumstances can be violated or even viewed
as made up of targets rather than absolute constraints.

Split-rate tax system

A tax system that taxes retained earnings at a higher rate than earnings that are
distributed as dividends.

Static theory of capital structure

Theory that the firm's capital structure is determined by a trade-off of the
value of tax shields against the costs of bankruptcy.

Structured arbitrage transaction

A self-funding, self-hedged series of transactions that usually utilize
mortgage securities as the primary assets.

Structured debt

Debt that has been customized for the buyer, often by incorporating unusual options.

Structured portfolio strategy

A strategy in which a portfolio is designed to achieve the performance of some
predetermined liabilities that must be paid out in the future.

Structured settlement

An agreement in settlement of a lawsuit involving specific payments made over a
period of time. Property and casualty insurance companies often buy life insurance products to pay the costs
of such settlements.

Taking a view

A London expression for forming an opinion as to where market prices are headed and acting on it.

TANs (tax anticipation notes)

tax anticipation notes issued by states or municipalities to finance current
operations in anticipation of future tax receipts.

Tax anticipation bills (TABs)

Special bills that the Treasury occasionally issues that mature on corporate
quarterly income tax dates and can be used at face value by corporations to pay their tax liabilities.

Tax books

Set of books kept by a firm's management for the IRS that follows IRS rules. The stockholder's
books follow Financial Accounting Standards Board rules.

Tax clawback agreement

An agreement to contribute as equity to a project the value of all previously
realized project-related tax benefits not already clawed back to the extent required to cover any cash
deficiency of the project.

Tax differential view ( of dividend policy)

The view that shareholders prefer capital gains over dividends,
and hence low payout ratios, because capital gains are effectively taxed at lower rates than dividends.

Tax-exempt sector

The municipal bond market where state and local governments raise funds. Bonds issued
in this sector are exempt from federal income taxes.

Tax free acquisition

A merger or consolidation in which 1) the acquirer's tax basis in each asset whose
ownership is transferred in the transaction is generally the same as the acquiree's, and 2) each seller who
receives only stock does not have to pay any tax on the gain he realizes until the shares are sold.

Tax haven

A nation with a moderate level of taxation and/or liberal tax incentives for undertaking specific
activities such as exporting or investing.

Tax Reform Act of 1986

A 1986 law involving a major overhaul of the U.S. tax code.

Tax shield

The reduction in income taxes that results from taking an allowable deduction from taxable income.

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