Relationship between Capital Structure and Firms Performance: A Case of Textile Sector in Pakistan

Abstract

Introduction The capital structure of a business is the mix of types of debt and equity the company has on its balance sheet. The capital or ownership of a business can be evaluated by knowing how much of the ownership is in debt and how much in equity. The company's debt might include both short-term debt and long-term debt (such as mortgages), and equity, including common stock, preferred shares, and retained earnings. Capital structure is sometimes referred to as a company's debt to equity. In every business, capital structure is the primary important; this is the company's percentage of money invested in the business. The capital structure of any company shows the large influence and possible outcome of the company's revenues, it also determines the earnings that will go to the shareholders of the business. Generally speaking, it comprises the invested money, purchased land, equipment, buildings, and other materials that are bought in cash to be used in the business. All the things that can be converted into cash or even used as collateral for business loans are considered as part of the capital structure of the business. The capital structure is how the company finances its entire operations and expansion by utilizing different financial sources whether it's from equity capital, debt capital, and other form of capital such as vendor financing. Vendor financing is a process of selling goods or products before paying the bill to the vendor. It doesn't anything to the company; instead it gives more return of investments. The capital structure of a company is referred to the way in which the company finances itself through debts, equity and securities; it can therefore be referred to as the capital composition of the company taking into consideration its liabilities, Modigliani and Miller propose the Modigliani Miller theorem of capital structure which states that the value of a company in a perfect market is unaffected by the way the company is financed but through the capital structure it employs. We investigate if firm efficiency has an effect on capital structure and whether this effect is similar or not across different capital structure choices. Throughout these analyses we consider explicitly the role of equity ownership structure on both capital structure and firm efficiency. A mix of a company's long-term debt, specific short-term debt, common equity and preferred equity. The capital structure is how a firm finances its overall operations and growth by using different sources of funds. Debt comes in the form of bond issues or long-term notes payable, while equity is classified as common stock, preferred stock or retained earnings. Short-term debt such as working capital requirements is also considered to be part of the capital The term capital structure refers to the percentage of capital (money) at work in a business by type. Broadly speaking, there are two forms of capital: equity capital and debt capital. Each has its own benefits and drawbacks and a substantial part of wise corporate stewardship and management is attempting to find the perfect capital structure in terms of risk / reward payoff for shareholders. Equity Capital: This refers to money put up and owned by the shareholders (owners). Typically, equity capital consists of two types: 1) contributed capital, which is the money that was originally invested in the business in exchange for shares of stock or ownership and 2) retained earnings, which represents profits from past years that have been kept by the company and used to strengthen the balance sheet or fund growth, acquisitions, or expansion. Many consider equity capital to be the most expensive type of capital a company can utilize because its cost is the return the firm must earn to attract investment. Debt Capital: The debt capital in a company's capital structure refers to borrowed money that is at work in the business. The safest type is generally considered long-term bonds because the company has years, if not decades, to come up with the principal, while paying interest only in the meantime. …

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