Capital structure and firm performance



Capital construction refers to the house ‘s fiscal model. It is a combination of debt, equity, intercrossed securities and other beginnings of finance used to run the activities of the house. The pick of capital construction is of import for any organizational set-up, in order to maximize returns to different stakeholders and besides because of the consequence such a pick has on an administration ‘s ability to last amidst competition. Choosing the right fiscal mix is hence a important determination as it involves equilibrating the awaited hazards with the expected net income.

Myers ( 1984 ) in his popular position opined that the yardstick houses use in taking their capital construction is unknown to us. This is still true despite the theories that have been developed to understand what an optimum capital construction entails. An optimum capital construction is normally defined as one which will understate an administration ‘s hazard i.e. cut down its leaden mean cost of capital, while at the same clip maximizing steadfast value. Precisely how houses choose the capital construction mix remains a mystifier. The reply to this inquiry is really of import because the determination of directors will impact the growing and public presentation of the house and besides act upon how investors view the house.

The concern environment in China has some distinguishing characteristics that make it an interesting focal point. China is transforming from a centrally-planned economic system to a free market economic system and has achieved great success in economic development every bit good as pulling a great trade of foreign investors. It should be noted that China has possesses institutional construction that are rather different from developed states. This is so because despite the transmutation from bid economic system where authorities was in entire control of the economic system, to market economic system, the authorities still has considerable influence on the economic system. As Huang et Al ( 2005 ) put it, because of the influence the province wields in most listed companies ; it makes their capital construction pick irrelevant since the authorities Wades in when there is a job. Many of the initial reverses of market transmutation have been overcome. The dominant economic establishment in China is the market, therefore the pick of China as the focal point of the research. The challenges being faced in Chinese economic system have moved from passage to development – Naughton ( 2007 ) .The thrust to put in human capacity and substructure every bit good as create efficient establishments that would be the pillar of the economic system are some of the challenges faced by the Chinese economic system.

Most modern theories on capital construction owe their being to the famed paper of Miller & A ; Modigliani ( 1958 ) . They argued that in a perfect market, ( i.e. no revenue enhancement, no bankruptcy costs, and asymmetric information ) , the existent value of a company depends on its income flow and the grade of hazard, irrespective of its debt-equity mix and that any imperfectness will be rapidly wiped out by the market. Miller & A ; Modigliani ( 1963 ) further included revenue enhancements in their analysis and found out that a house ‘s overall value additions with debt. There are utile theories that help to explicate the pick of capital construction of companies. They are the trade-off theory and the pecking order theory.

The tradeoff theory provinces that houses seek to equilibrate the revenue enhancement additions or benefits from borrowing against the hazard of fiscal hurt. At this point the house is said to be runing an optimum capital construction. The job of bureau costs has been explored by Jensen and Meckling ( 1976 ) . Directors are agents of stockholders and are expected to move in their best involvements. However, they have day-to-day control over the concern and the stockholders do non hold equal information on whether their best involvements are being served by the directors. – Pike & A ; Neale ( 2006 ) . The impact of bureau costs is that debt suppliers demand unnatural involvement rate thereby doing debt expensive.

As the Debt equity ratio ( i.e. purchase ) increases, there is a tradeoff between the involvement revenue enhancement shield and bankruptcy, doing an optimal capital construction, ( hypertext transfer protocol: // Structure )

The empirical support for the tradeoff theory is inconclusive. While Miller & A ; Modigliani ( 1966 ) , Schwartz & A ; Aronson ( 1967 ) , Bradley et Al ( 1984 ) find grounds in favor of the tradeoff theory, Titman & A ; Wessels ( 1988 ) found assorted grounds. Long & A ; Malitz ( 1985 ) found no grounds – See Myers & A ; Sunder ( 1984 ) .

The picking order theory of capital construction emanates from the job of information dissymmetry. Myers ( 1984 ) opined that because of inauspicious choice job, houses prefer internal finance to external finance. When external financess are required, houses prefer to publish debt which is less hazardous than equity- see Frank & A ; Goyal ( 2003 ) . Equity is merely issued as a last resort because the determination to publish equity signals bad intelligence – Myers ( 1984 ) . The deduction of the picking order theory is that houses do non hold a peculiar mark capital construction. The empirical support for the pecking order theory is every bit assorted. Sunder & A ; Myers ( 1999 ) sampled 157 public houses in the United States and found grounds of the picking order theory. Myers ( 2001 ) supports this position – see Frank & A ; Goyal ( 2003 ) . Research on the impact of profitableness on the purchase of houses has besides been carried out. Kester ( 1986 ) , Titman & A ; Wessels ( 1988 ) , Rajan & A ; Zingales ( 1995 ) and Wald ( 1999 ) , found opposite relationship between purchase and profitableness. While we are unable to absolutely reply the inquiry posed by Myers ( 1984 ) about how companies choose their capital constructions, there is small empirical grounds to demo the determiners of capital construction pick. Harris & A ; Raviv ( 1991 ) , study that steadfast specific factors such as house size, plus tangibleness, and investing chances affect purchase. Antoniou et Al ( 2008 ) , in holding to that, farther added that fiscal orientation of the economic system every bit good as macro economic factors affect the capital construction of the house.

Previous research on capital construction has been carried out in the developed states of the universe particularly the United States and the United Kingdom- see Titman & A ; Wessels ( 1988 ) , Rajan & A ; Zingales ( 1995 ) . The turning importance of capital construction means that it has enabled research workers to do comparings between states and establishments all over the universe. Rajan & A ; Zingales ( 1995 ) examined the determiners of capital construction pick by looking at the funding determinations of public houses in the G-7 states and discovered that houses among the G-7 states were reasonably levered. Surveies on developing economic systems such as Booth et Al ( 2001 ) merely appeared late. The Peoples ‘ Republic of China is the largest developing economic system in the universe and the investing involvement it draws from the developed economic systems makes it an interesting focal point of research.


This research paper examines the determiners of capital construction in listed companies in the Chinese stock exchange and investigates whether houses in China possesses alone features. It besides examines the impact of a alteration in capital construction on the value of houses listed in the Chinese stock exchange.


This will flux from the research objectives. The research worker will seek to reply the undermentioned inquiries:

( I ) Does alter in capital construction affect the value of houses listed in the Chinese stock exchange?
( two ) Does revenue enhancement consequence influence the funding determinations of Chinese companies?
( three ) `Do house specific factors correlated with purchase in developed states have explanatory power for houses in China?
( I ) Does the institutional environment in China have any bearing on a house ‘s pick of capital construction?


An extended and painful reappraisal of closely related literature will be undertaken by the research worker to derive equal cognition of capital construction theories and how it is applied. This will affect analyzing text books, diary articles, fiscal articles and columns that will heighten cognition and apprehension of the research work undertaken and help the research worker in replying the research inquiries.

This research is traveling to utilize a sample of the top100 companies listed in the Chinese stock exchange over a ten-year period ( 1998-2008 ) .The research worker will utilize informations from the one-year study of listed companies every bit good as accounting informations of these companies. The chief method to be employed is the event survey method, where the alteration in funding mix happening in these companies within this period will be closely observed.



submit proposals to supervisors

June hebdomad 2:

feedback Sessionss on proposals

June hebdomad 4:

Submit comprehensive reading list with abstract

July hebdomad 4:

Data aggregation complete and literature reappraisal written

August hebdomad 4:

Empirical analysis complete and consequences written


Submit Dissertation

( LUBS 5018M Research Methods in Finance ( 19643 ) )

6.0 Resource

The handiness of Statistical Package for Social Sciences ( SPSS ) will help the research worker in analyzing informations collected.


The completed research work will be submitted to University of Leeds, Leeds University Business School for the award of an M.Sc in Banking and Finance. After thorough appraisal by the school, if successful, the completed work will be submitted to academic diaries for onward reappraisal and publication. The research worker besides plans to utilize this work as a usher for future research particularly in Nigeria where there is famine of research on capital construction of companies.

8.0 Mentions


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