This question relates to capital structure theory and practical implications of capital structure decisions. Answer both parts.

1. Modigliani and Millers Capital Structure Irrelevance Theorem assumes companies do not pay taxes, and there is no risk of default. Explain how these two assumptions do not hold in practice and how this leads to the Static Trade-Off Theory of capital structure. (2 marks)

2. Discuss the possible impact of weakening macro-business conditions due to the COVID-19 pandemic on highly leveraged firms that sell discretionary goods to retail customers. Consider the effects on the borrowing power, possibility of financial distress, and capacity to raise new funding for a company in this type of industry, in the current financial climate. (4 marks)