How the capital structure impact on the shareholders' wealth?

Modigliani and Millar (1958) though that there are no impact on the WACC to enhance the shareholders' wealth. They explained: first, individuals can borrow as the same rate as corporations; secondly, there are no taxation and financial distress for the company. Based this theory, managers need as much debt as possible, due to cheaper debt, higher value of shareholders. Is that true?

Wall Street reported a news that "Schaeffler cuts stake in Continental to reduce debt" on this Monday. What things caused this huge debt existing? Schaeffler cost 12 billion euros to acquisition its larger viral Continental on August 2008.

What reason causes larger company Continental have to bid with Schaeffler? Because of the Lehman Brothers collapse, the wake of stock market impact on the Continental forced bid with Schaeffler. According to primer CEO of Continental, Manfred Wennemer expressed that he had tired to preserve the independence of the company. So it led to Continental accept bid with Schaeffler on August 2008. Karl-Thomas Neumann instead of Wennemer was a new CEO of Continental on September 2008.

Schaeffler have to delay taking a majority stake until 2012 when they faced those huge debts. In fact, Schaeffler announced that they plan to reduce 15 per cent total stake of Continental to 1.8 billion euros from 12 billion euros recently which caused the share price of Continental up 2.9 per cent. However, they still have nearly 6 billion euros debt from their operation, even cut the cost of acquision to 4.6 billion euros.

Schaeffler launched a takeover bid for Continental in order to maxmize the value of their shareholders. However, increasing huge debt was further burdened by Schaeffler acqusition. It does not bring benefits, but also taking financial risk for company. It will also affect the attractive investment capability and even worse to lead to bankcrupcy.

In the real world, a complex situation impact on the capital structure in the company. Managers have to consider the debt to equity ratio to maxize shareholder wealth, and equal the level of WACC. The taxation is very important index for managers making a decision. They have to concerning the effect of taxation to estimate the percentage of the WACC.