Thursday, 20 December 2018

Factors affecting the capital structure of a company

capital structure

In general research on capital structure focus on the proportion between debt (debt) and capital (equity). It is seen on the right side of the balance sheet of the company. The purpose of the management structure of this capital is to combine a permanent source of funding. That can be use by companies to maximize the value of the company. Every company strives to achieve the optimal capital structure in order to maximize the value of the company.

Capital structure describes a combination of long-term financing. That is use to acquire the assets of a business". Principal targets for financial managers is to find the optimal capital structure. In line with the above understanding. "the capital structure is a combination between a specific long-term debt and equity finance in the company use his company". That combination will affect the risks and value of the company. That the optimal capital Structure should be on the balance between risk and returns that maximize the share price.

The variables that affect the Modal structure

There are four variables that affect leverage. These variables are the market-to-book ratio, tangibility, profitability, and firm size. Focus on this research there on a market-to-book ratio, as a proxy of the equity market timing.

However, these studies keep plugging the third other variables. That is, tangibility, profitability, and firm size as variable control. The Market-to-book ratio is a proxy of investment opportunities and the perception of misprinting (overvalued or undervalued). A Market-to-book ratio also indicates the level of prosperity of a company with that comparison is the amount of capital invest into the company by the shareholders in the present and the past. Market-to-book ratio is high also indicate an increase in external financing companies and vice versa. Market-to-book ratio is define as the market value of assets divide by the book value of assets.


Base on the perspective of the trade-off theory and agency theory, companies. That have fixed assets in great numbers, will tend to have a number of debts more than companies. That have fixed assets in very small amounts. This is cause because of the fixed assets can be use as a guarantee. If the company is experiencing financial difficulties so that the company will seek loans from outside. Fixed assets has a physical form and is easily judge by the giver of the debt. Because it's fixed assets are pledge against this easier than intangible assets. Tangibility is defined as land, property and equipment.


Notes that companies with a high profitability level, tend to have low debt levels. This can be explain through the pecking order theory that state. That companies with high levels of profitability have abundant internal funds. Profitability is define as earnings before interest and § taxes (EBIT). EBIT also could be consider the same as operating profit. Which can measure the performance of a commercial activity of the company without regard to financing.

Firm size indicated that the bigger a company gets bigger debt level also. A positive relationship between firm size and leverage. This is because the big companies have a level of credibility that is higher. Than the small companies so that large companies have easier access to get the loan.

Investors and analysis

These large companies are generally better known by outside parties such as investors and analysts. So that information receive outside parties symmetrical with company managers.

Companies that are small or young may have cash inflows are low in the face of a lucrative investment opportunity. Do not have access to the capital market on the regular. So that at the same time the company little reluctant to invite outside parties (outsiders). As a partner or co-worker firm size is define as the logarithm of the net sales.

The last Variable is insert is lagged leverage. Lagged leverage inserted because when lagged leverage not control will make the effects of other variables-variables do not appear. The value of leverage is limit between zero and one. When leverage is approaching one of these limits (close to zero or close to one) then change the leverage is going to happen in one direction without being influence by the values of other variables.

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