Assumptions of capital structure theories

Capital structure of Apple Inc.
Abstract
This paper sought to determine how the capital structure of Apple Inc. is affected by concepts learned in chapter 15. To find out the truth, I reviewed multiple literatures, as well as Apple’s financial reports and tested for the similarity and dissimilarities. I first reviewed the capital structure issues faced by Apple Inc. and discovered that Apple uses non-financial liabilities to measure its leverage, yet it is not supposed to be so (Welch, 2010). Secondly, I found that Apple Inc. usually regard the issuing out of equity as equal to changing its capital structure, yet the two have weak correlation (Welch, 2010). I also looked at business and financial risks related to capital-structure of Apple Inc. and discovered that companies usually incur high financial risks whenever they try to reduce their business risks (relying more on debts than equity).

I then looked Modigliani and Miller’s [MM] capital-structure theory where I discovered that the theory disputes the idea of relying on leverage levels to determine the value of the company. Instead, it postulates that the valuation of the company should depend on its future growth prospect and its profitability. That is, the valuation of the company is highly correlated to its operating profits and growth prospects. Next, I delved into various weaknesses associated with MM theory and I found that the theory’s assumption that there is no taxation is untrue since in real-world firms are prone to taxation.

After that, I looked at the Capital-structure evidence and implications and found that some elements in Apple Inc. support, whereas, others disapprove MM model’s rationale. For instance, valuation of Apple Inc. is highly depended on operating profits and growth prospects, which implies that the Modigliani and Miller’s [MM] capital-structure theory is true. However, Apple Inc. is prone to taxes, a reality which contradicts Modigliani and Miller’s [MM] capital-structure assumption that there are no taxes.

I finally looked at Apple’s rationale of estimating its optimal capital structure. I discovered that whenever business risk is high, Apple Inc. usually relies more on debts for financing than on stoke. I also noted that Apple’s management is conservative and they usually rely more on equity than debts, whenever the future growth prospect and profitability is high. In conclusion, Apple Inc. obeys some of the Modigliani and Miller’s [MM] capital-structure theory, and at the same time, it disapproves others.

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