According to the trade-off theory, which companies should operate with low leverage?

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capital structure

Capital structure refers to the value composition and proportional relationship of various capitals in an enterprise, which is the result of financing combination in a certain period of time. It is the core issue of enterprise financial decision-making, which has an important impact on the market value and corporate governance of enterprises.

The theoretical basis of capital structure determines the financing choice of enterprises. This issue of Caizhi mainly introduces the representatives of the capital structure theory in the old and new stages: the trade-off theory and pecking order theory.

1. Weighing theory

Under the trade-off theory, companies decide the ratio of debt financing to equity financing by weighing the pros and cons of debt. The change of enterprise debt ratio is the result of weighing the advantages and disadvantages of debt.

Based on the assumption of complete information, it considers the influence of tax, financial distress cost and agency cost on enterprise financing decision, and holds that the optimal capital structure depends on the level when the marginal cost of debt equals the marginal income, and the enterprise has an ideal financial leverage ratio goal.

Therefore, under certain investment opportunities, enterprises with strong profitability should have higher financial leverage.

2. pecking order theory

Under pecking order theory, when financing new projects, companies will give priority to using internal earnings, followed by bond financing, and finally consider equity financing, that is, follow the order of internal financing, debt financing and equity financing.

Based on the assumption of incomplete information and considering the existence of transaction costs, it is considered that the basis of enterprise financing decision-making is one-sided, that is, using low-cost financing methods as far as possible, and there is no ideal leverage ratio target.

Therefore, under certain investment opportunities, enterprises with strong profitability have low leverage ratio, and high profit retention and low debt ratio are the manifestations of high financing ability.