Determinants of Capital Structure

Finding the perfect capital structure in terms of risk and reward can ensure a company meets shareholder expectations and protects a firm in times of recession. Capital structure refers to how a business puts its money to “work”. The two forms of capital structure are equity capital and debt capital. Both have their benefits and limitations. Striking that perfect balance between the two can mean the difference between thriving versus trying to survive.

The capital structure decision is important for any business organizations. The capital structure is essential because it maximize returns, and its impact, such a decision has on the firm’s power to deal with its competitive environment. The capital structure of organization is a mixture of different securities….

According to Gitman, the goal of the firm, and therefore of all managers and employees, is to maximize the wealth of the owners for whom it is being operated (2009). The financial manager is responsible for acquiring sources of financing and allocate amongst competitive investment alternatives. The ultimate goal is to invest in projects yielding higher returns than amount of financing used to invest, so profits can be used satisfy claims and increase shareholder wealth. The issues facing financial managers are therefore to 1) increase sources of financing from investors and 2) increase shareholder wealth while maintaining a

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Healthcare organizations have a way of handling the issues of the capital structure. The policy of the optimal capital structure in a health institute ensures that the financial strength of the company is obtained. Health organizations need to fund their projects for the sake of smooth running of the activities. However, some of them cannot be able to sell stocks to the public since they are non-profit organizations. Capital structure is a dynamic aspect; instead of static. It depends on the socio-economic sector and the conditions the company is operating in. there are three first types of approaches an organization can take when it comes to the optimal capital structure. It has to do with the balancing between equity and debt.

In finance, capital structure refers to the way a corporation finances its assets through some combination of equity, debt, or hybrid securities. A firm's capital structure is then the composition or 'structure' of its liabilities. For example, a firm that sells $20 billion in equity and $80 billion in debt is said to be 20% equity-financed and 80% debt-financed. The firm's ratio of debt to total financing, 80% in this example, is referred to as the firm's leverage. In reality, capital structure may be highly complex and include dozens of sources. Gearing Ratio is the proportion of the capital employed of the firm which come from outside of the business finance, e.g. by taking a short term loan etc. – Take what you can from this.

Capitalism is a market approach wherein the government allows the penetration of foreign companies to acquire certain public companies to assure the economic growth of the country. Thus, the capital structure is defined as the proportion between equity and debts of a company as a whole. The structures of a business are dependent on the different economy status of a country. Thus when economy is in good condition, expect capital structure to be smooth flowing and that debts is low as there is increased in profits for the business with the good economic standing of the country.

Capital structure describes how a corporation has organized its capital—how it obtains the financial resources with which it operates its business. Businesses adopt various capital structures to meet both internal needs for capital and external requirements for returns on shareholders investments. As shown on its balance sheet, a company 's capitalization is constructed from three basic blocks:

Generally, firms can choose among various capital structures in order to maximize overall market value of the company. It is proposed however, that

If the firms funding requirements are larger than their retained earnings, they must issue debt as this is preferred to issuing equity. Based on this theory, a firm’s financing policies could be viewed as signalling management’s view of the firm’s stock value (Wang & Lin 2010).Myers and Majluf (1984) also add that if firms issued no new securities but only used its retained earning to support the investment opportunities, the information asymmetric could be resolved. This suggests that issuing equity turn out to be more expensive as asymmetric information insiders and outsiders increase. Large firms should then issue debt to avoid selling under priced securities. As the requirement for external financing increases, businesses will work down the pecking order, from safe to riskier debt, perhaps to convertible securities or preferred stock, and finally to equity as a last resort. Each firm's debt ratio therefore reflects its cumulative requirement for external financing (Myers 2001).The pecking order theory clarifies why the bulk of external financing comes from debt. It also describes why organizations that are more profitable borrow less: since their goal debt ratio is, low-in the pecking order they do not have a goal since profitable firms have more internal financing available.

Capital structure is defined as the mix of the long-term sources of funds that a firm use. It is composed of equity, debt securities and affect long-term financing of the entity. It is made up by shareholder’s funds, long-term debt and preference share capital. The capital structure mostly focus on the proportions of debt and equity displayed in the company financial statements, especially in the balance sheet (Myers, 2001). The value of a firm can be calculated by the sum of the value of its firm’s debt and equity.

The Modigliani-Miller theorem is the basis for modern thinking on capital structure. The basic theorem that, under certain market process (the classical random walk), in the absence of taxes, bankruptcy costs and asymmetric information, i.e., in an efficient market, the value of a company is not affected by the way the company is financed. No matter whether the capital of the company is obtained with the issue of shares or debt. No matter what the dividend policy of the company. Therefore, the Modigliani-Miller theorem is also often called The Principle of irrelevance of capital structure. It is the emergence of corporate taxes that undo the irrelevance in the structure of financing and the cost of debt is reduced because it is a paid before income tax expense.

A firm can choose a mix of three modes of financing i.e. issuing shares, borrowing from the market and use of retained earnings. The ratio of this mix of funds purely depends on the firm and known as optimal capital structure of the firm. This leads to the different capital structure theories. These theories explain their

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We were given twenty companies to analyze and decide that, which has the greater impact or impact on shareholder’s value in between Capital structure and Dividend policy. We have succeed to collect data of 2010-2011 of 18 individual companies. They are;