Net Income Approach
Net Income Approach
The capital structure theory known as the net income approach says there is a direct relationship between the capital structure and the value of the business. That is, lowering the cost of capital can increase the value of a company.
More debt is cheaper because of the ability to deduct interest and lower taxes. Thus, the maximum value under the net income approach is with 100% debt financing.
For example, a company can access debt cheaper than equity financing. Thus, it uses only debt to finance its business and does not issue equity. With the net income approach, the company has lowered its cost of capital to the lowest point with 100% debt financing, which maximizes the value of the company.