CAPITAL STRUCTURE

Definition:

Acc. to Gerestenbeg:“ Capital structure of a company refers to

the composition or make-up of its capitalization and it includes all long-term capital resources viz: loans, reserves, shares and bonds.”

Forms/Patterns:

Ordinary Shares only. Ordinary Shares and Preference

Shares. Equity Shares and Debentures. Equity Shares, Preference Shares

and Debentures.

Optimum Capital Structure

A capital structure or a combination of owned capital and debt which enables to maximize the value of the firm is called optimum capital structure.

Qualities of Optimum Capital Structure :

Simplicity Flexibility Minimum Cost of Capital Adequate Liquidity Minimum Risk Legal Requirements Maximum Return Control

Factors Affecting Capital Structure:

1. Size of Business2. Form of Business

Organisations3. Stability of Earnings4. Degree of Competition5. Stage of Life Cycle6. Credit Standing

7. Corporation Tax8. State Regulations9. State of Capital Market10.Attitude of Management11.Trading on Equity12.Interest Coverage Ratio13.Cash Flow Ability of the Company

14. Cost of Capital15. Floatation Costs16. Control17. Flexibility18. Leverage Ratios for other Firms19. Consultation with Invt. Banker &

Lenders20. General Level of Business Activity

Capital Structure Theories

1) Net Income Approach2) Net Operating Income Approach3) Traditional Approach4) Modigliani and Miller Approach (with and without

taxes)