Capital Structure

Introduction

Finance is one of the most important components for the survival of a business. Finance is the provision of money as and when it is required by an enterprise. No business house can accomplish its objectives without the facility of finance.

Finance can be made available through various sources of finance i.e. public finance & private finance. The way that an enterprise organizes its finance is very important; this is known as financial management.

The context of our study is related to Capital Structure. This has been discussed as follows;

• What is Capital Structure?

The capital structure refers to the kind and proportion of different securities for raising funds. Under this the different ways of raising the funds is considered. These ways include short term and long term methods. A decision about various sources for funds needs to be linked to the cost of raising the funds. If the cost of raising the funds is very expensive then such source are not useful.

It includes equity, debt and hybrid securities. A firm's capital structure is 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.

• Factors Determining Capital Structure

Trading on Equity- The word “equity” denotes the ownership of the company. Trading on equity means taking advantage of equity share capital to borrowed funds on a reasonable basis. It refers to additional profits that equity shareholders earn because of issuance of debentures and preference shares. It is based on the thought that if the rate of dividend on preference capital and the rate of interest on borrowed capital is lower than the general rate of company’s earnings, equity shareholders are at advantage which means a company should go for a judicious blend of preference shares, equity shares as well as debentures. Trading on equity becomes more important when expectations of shareholders are high.

Degree of control- In a company, it is the directors who are so called elected representatives of equity shareholders. These members have got maximum voting rights in a concern as compared to the preference shareholders and debenture holders. Preference shareholders have reasonably less voting rights

...