What does the term “capital structure” refer to?

The term “capital structure” refers specifically to the mix of debt and equity financing that a company uses to fund its operations and growth. This concept is critical in finance because it helps determine a company’s overall risk and cost of capital. A firm’s capital structure impacts its financial stability, flexibility in raising funds, and ultimately its valuation.

Debt financing includes loans and bonds, which must be repaid, often with interest, while equity financing involves raising capital through the sale of shares, which does not need to be repaid but may dilute ownership. A well-balanced capital structure can optimize the overall cost of financing and improve a company’s spread of risk.

The other options do not accurately define capital structure: the distribution of physical assets pertains to the management of tangible resources, the process of investing in new technology relates to operational strategy, and the allocation of cash reserves involves cash management rather than the funding structure of a business. Thus, understanding capital structure is fundamental for finance officers tasked with managing a company's financial strategy.