Part A

Introduction
This part gave the notes that slides together with the consistent PowerPoint while the presentation
had critically analyzed the benefits and risks to the company. The details of the contents of the
presentation is showed in the following parts.

Corporate debt
Corporate debt included the two types such as the promissory loan notes and debentures.
Then the gearing levels of the diversity industries would be different from each other so the while
their cash flow would be different. The decision of increasing corporate debt should take into
account the situation of gearing level and cash flow especially the long term corporate retail bond.

The strategies of introducing corporate debt into the current capital structure have some key
factors such as the value of the company, shareholder interest and the current market price of the
company ordinary share.

Corporate bond
The corporate bond is a type of corporate debt that is issued by a corporation which can help the
enterprise to raise money effectively to expand its business (Brealey, R. A, et.al, 2006).
It Is typically used for long-term debt instruments, usually from the issuance date to
maturity date is at least one year.
Corporate bonds can divided into some main types according to the key content of the corporation

bonds such as the following two types

Loan stock,

The Debentures.

Benefit of issuing corporate bond

The benefits of issuing corporate can be showed in the following aspects
Firstly, At first, the corporate bond can make the corporation to have the more control to the cost
of the debt and repayment date can lead decrease risks of finance. The bonds were issued to
provide additional working capital for the Group.

Secondly, the bond has the less risk than the equity which would not lead the transfer of the
ownership of the enterprise. The Groups actions to increase its warehouse facilities, the new retail
bond program all combine to provide substantial capacity to support further growth in our existing
business areas.

Thirdly, the tax-deductible is the key factor of the decision of issuing the corporate bond
comparing to the equity because of the feature of the tax-deductible of the corporate bonds can
help the enterprise to get the large tax savings.

Risk of issuing corporate bond

The main risks of issuing corporate can be showed in the following two aspects
On one hand, the yield advantage of the corporate bond has the close relation with the government
bonds, which the change of government bond yields can significantly influence the yields of
corporate issues. The changes of the government bond yields would give the benefit or loose to the
investors of corporate bond, especially the long-term corporate bond that are more sensitive to the
changes of the basic interest rate.

On the other hand, if the company default because of corporate bonds, most investors would sold
the assets to get the cash. The investors should take into account the appearance of the default by
paying attention to the business operation and situation of cash flow of the corporate. A good cash
flow of company is the requirement for increasing levels of bond and gearing, which also extend
the financial risk and operation pressure for the certain enterprise.
Debentures
Debentures is one typical long-term debt and this type of the corporate bonds are always
unsecured.

For issuing firm, the issuing of debentures would bring up the benefit of not tying up
property as collateral.

For bondholders, the investment of debentures would have the more risky than secured bonds
but the high risk always accompanied with a higher yield than secured bonds.

Key factors of issuing corporate debt

There are also several key aspects to issue incorporate corporate bones.

Definition of legal contract to pay coupon and the interest

In the issuing of the corporate bonds there are the essential legal contract to pay coupon and
interest for the investors. Maybe there is a increase in the cost of debt and equity as a result.

Role of Convertible debt

For the convertible debt, its bondholder can convert it into a predetermined amount of the
company's equity at certain times. The issuing of the convertible debt such as the Convertible
Bond would increase the shareholders of the enterprise which may lead the transfer of ownership
of the enterprise (McLaney, E. J., 2011). So the debt especially the Convertible Bond should have
the detailed plans. There are also three basic conversion conditions of the issuing convertible bond

that includes the conversion price, the shares issued upon conversion and the request during
conversion.

Policies of the dividend payments

Corporate debt is trust fund and the three are less capital gains on the secondary market for the
investors of the corporate debt especially the long term debt.

Price of the bond

The price can be classified in to the three types of the par value, issues price and circulation price.
The price of the bond in the secondary market popularity linked to the performance of the stock
market and the policies of the dividend payments of the enterprise.

In the case of the Paragon group of companies PLC, the enterprise has conduct more than 20 times
of the dividend payment since they began to issue the corporate debt so as to their corporate debt
can get the acknowledge of the market and investor.

Capital structure
A companys capital structure is the composition liabilities which is a mixture of a corporation's
long-term debt, the certain short-term debt, ordinary stocks and preferred stocks. The capital
structure is the description of how the enterprise to arrange its capital resource using different
sources of funds.

The equity from the shareholders and the debt from the creditor and their respective proportion
construct the structure of the capital of certain enterprise.

Debt mainly come from the bond issues or long-term notes payable. While the short-term debt like
the amount of working capital requirements also can be included in the capital structure.

Theory of capital structure

Cost of capital represents a hurdle rate that a company must overcome before it can generate value

(Watson, D. and Head, A., 2007). The optimization of the capital structure has the close
relationship with the cost of the different source of capital. There are the three popular theories of
the capital structure.

Pecking- order theory

Pecking order theory is developed by Myers and Myers and Mujlut in 1984 as an alternative
capital structure theory.
Pecking order theory is a hierarchical structure of financing choice for a firm makes due to
information asymmetry , it is also mean that companies tend to make use of retained earnings are
better than debt and equity (Myers, S. C., 1984).
According to this theory, the company always have the preference to the different finance resource
with internally generated funds instead of with external financing so that the finance resource of
the debt is preferred over equity when external financing is necessary by the enterprise (Harris,
M., & Raviv, A., 1991).

Trade off theory

It is the theory about the amount of debt financing and equity financing that the enterprise has
chosen and the number of using costs and benefits to keep balance (Frank, M. Z., & Goyal, V.
K., 2005). The assumption of this theory is that marginal costs and marginal benefits are balanced
as interior solution is obtained.
This theory is about offsetting cost of debt in order to avoid extreme prediction. According to this
theory, the company is usually partially funded debt and part of the interest is an important
purpose of this theory (Brealey, R. A, ET.AL, 2006).

The Modigliani-Miller Theorem

Modigliani - Miller theorem was firstly provided by Thomson who combined elements of
incomplete information and bankruptcy costs in a complete contracting environment in order to
study the nature of the debt in 1979 (Marques, M. O., & Coutinho dos Santos, M. J., 2004).
According to the theory, in the process of market pricing, taxes, bankruptcy costs, agency costs
and information asymmetry the value of a company is not affected by the fund of their companies

in an efficient markets.

Calculation of WACC
The weighted average cost of capital (WACC) is the popular method of the measurement of cost
of capital. The following part we give the calculation of the WACC.

WACC is a weighted average of the costs of the diversity sources of financing, each of which is
weighted by its respective proportion in the total capital (Arnold, J. and Turley, S., 1996). The
capital source has included the ordinary stock, preferred stock, corporate bonds that are all
included in a WACC calculation.

Weighted Average Cost of Capital (WACC)

Where:
Re = cost of equity
Rd = cost of debt
E = market value of the firm's equity
D = market value of the firm's debt
V=E+D
E/V = percentage of financing that is equity
D/V = percentage of financing that is debt
Tc = corporate tax rate

Objectives of the current capital structure

The objectives of the current capital structure is the following aspect.
At first the enterprise want to attract a larger volume of capital. This method of introducing the
corporate bonds into the capital structure would help to earns a positive NPV and shareholder
wealth for the enterprise.

Then the cost of capital can act as an intangible cost because the low cost of the long term liability

would provide the enterprise the sufficient capital reserves to expand the business scale and
diversity operation. The current capital structure has reduced the cost of funding and spread the
financial risk of the diversification largely.

At last the current capital structure can help to limit dilution of owners interest such as the voting
power for the stakeholders. Issuing corporate debt does not dilute owners , interest. Only the
convertible bond may make the dilution of owners interest in the case of a conversion at a time
which suits the company.

Conclusion

In this part we have made the presentation of the benefit and risk of the capital cost and capital
structure of the enterprise. And the part also give the way of the calculation of WACC that is a
particularly significant source to calculate the cost of capital.

After that we made the summary that the increasing debt levels especially the level of the long
term corporate bonds requires the good cash flow to prevent from the potential financial risk and
distress. There is no risk free for the investors.

All in all the long term external finance such as the long term corporate bonds can support capital
investment and maximize shareholder wealth while the potential risk still exist. The different
enterprises can base on their own industries and enterprises , features with the help of the
comprehensive advice of the accountants which specialize on gearing policies and asset portfolio
to make the appropriate plans of the corporate debt.

Reference
Arnold, G. (2013) Corporate Financial Management. 5th Ed. Harlow: Pearson

Arnold, J. and Turley, S. (1996) Accounting for Management Decision. 3rd Ed. London: Prentice-

Hall

Brealey, R. A, Myers, S. C. and Allen, F. (2006) Corporate Finance. 8th Ed. McGraw-Hill Irwin.

Frank, M. Z., & Goyal, V. K. (2005). Trade-off and pecking order theories of debt. Handbook of
empirical corporate finance, 2, 135-202.

Harris, M., & Raviv, A. (1991). The theory of capital structure. The Journal of Finance, 46(1),
297-355.

Myers, S. C. (1984). The capital structure puzzle. The journal of finance, 39(3), 574-592.

Marques, M. O., & Coutinho dos Santos, M. J. (2004). Capital structure policy and determinants:
theory and managerial evidence. In EFMA 2004 Basel Meetings Paper.

McLaney, E. J. (2011) Business Finance: Theory and Practice. 9th Ed. Harlow: Financial Times
Prentice Hall.

Watson, D. and Head, A. (2007) Corporate Finance: Principles & practice. 4th Ed. Harlow:
Financial Times Prentice Hall.