Define the terms “book-value capital structure,” “market-value capital structure,” and “target capital structure,” and explain why they differ from one another.

Define the terms “book-value capital structure,” “market-value capital structure,” and “target capital structure,” and explain why they differ from one another.

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June 24, 2021
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Define the terms “book-value capital structure,” “market-value capital structure,” and “target capital structure,” and explain why they differ from one another.

Answer and ExplanationSolution by a verified expert

Explanation

The two measures differ because the book-value capital structure records values on the basis of the balance sheet, whereas the market-value capital structure calculates values based on the current market price of the instrument.
 
The market value is susceptible to changes in macroeconomic  factors (such as interest rates, inflation, etc.), whereas the book value experiences a minimal impact. Such changes in market value of debt and equity may lead to significant deviations in the capital structure.

Verified Answer

Book-value capital structure: This is the percentage mix of the sources of capital to finance the company's assets based on the company's financial statements.
 
Market-value capital structure: This is the percentage mix of the sources of capital based on the market value of the company's sources of funds.
 
Target capital structure: This is the ideal percentage mix of the sources of capital that the company believes will minimize the cost of capital and maximize its intrinsic value.

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