Final answer:
Managers must consider the trade-offs between maintaining control of the firm and the financial obligations when deciding on a capital structure. Borrowing requires interest payments but retains control, while issuing stock dilutes ownership but eases financial pressure.
Step-by-step explanation:
When making capital structure decisions, managers should consider several issues that directly affect the financial health and control of a firm. Borrowing money, whether through a bank loan or issuing bonds, necessitates committing to scheduled interest payments regardless of the company's profitability, which can strain finances if income is insufficient. The upside of this approach is that it ensures the firm retains full control over its operations without interference from shareholders.
On the other hand, issuing stock to raise capital dilutes ownership control but doesn't require regular interest payments, offering a different kind of financial flexibility. Managers must weigh the importance of maintaining control against the cost of debt and the potential benefits and drawbacks of answering to a board of directors and shareholders. The choice of capital source profoundly impacts future earnings, business growth, and company ownership structure, and so requires careful, strategic consideration.