Factors Affecting the Choice of Capital Structure:
(i) Cash flow position: The size of the projected cash flows should be considered before deciding the capital structure of the firm. If there is sufficient cash flow, debt can be used but it must cover fixed payment obligations.

The company has certain cash payment obligation such as (i) normal business operations, (ii) Investment in fixed assets, (iii) Meeting debt service commitments as well as provide a sufficient buffer.

(ii) Interest coverage ratio:
1. The interest coverage ratio refers to the number of times earnings before interest and taxes of a company covers the interest obligation which is calculated as follows: EBIT/ Interest.
2. Higher the Interest coverage ratio, lower shall be the risk of the company failing to meet its interest payment obligations.
(iii) Debt Service Coverage Ratio: The cash profits generated by the operations are compared with the total cash required for the service of the debt and the preference share capital. It is calculated as follows:
Debt. service coverage ratio =( Profit after tax + Depreciation + Interest + Non Cash)/(Expenses Preference Dividend + Interest + Repayment Obligation)
(iv) Return On Investment: If return on investment of the company is higher, the company can choose to use trading on equity to increase its EPS, i.e., its ability to use debt is greater.
(v) Cost Of Equity:
1. If a company uses more debt, the financial risk faced by equity holders increase so their desired rate of return may increase.
2. If debt is used beyond a point, cost of equity may go up sharply and share price may decrease in spite of increased EPS.