APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

The Journal of Sri Krishna Research & Educational Consortium

ASIA PACIFIC JOURNAL OF RESEARCH

IN BUSINESS MANAGEMENT
Internationally Indexed & Listed Referred e-Journal

FINANCIAL STRUCTURE ANALYSIS OF

INDIAN COMPANIES: A REVIEW OF LITERATURE
PROF. R. N. SWAIN*; DR. B .CHANDRA MOHAN PATNAIK**
*Professor,
KIIT School of Management,
Bhubaneswar, Odisha.
**Associate Professor,
School of Management,
KIIT University,
Bhubaneswar, Odisha.
ABSTRACT
Evaluation and performance measurement are among the most debated and
discussed issues in financial management. The relationship between capital structure
and financial performance of the companies is one that received considerable
attention in the finance literature all the time by everyone. The study has been
conducted to review literature on financial structure analysis of Indian companies.
KEYWORDS: Financial structure, performance, literature review.
____________________________________________________________________________
INTRODUCTION
Finance always being disregarded in financial decision making since it involves investment and
financing in short-term period. Further, also act as a restrain in financial performance, since it
does not contribute to return on equity. A well designed and implemented financial management
is expected to contribute positively to the creation of a firms value. Dilemma in financial
management is to achieve desired tradeoff between liquidity, solvency and profitability.
Management of working capital in terms of liquidity and profitability management are essential
for sound financial recital as it has a direct impact on profitability of the company. The crucial
part in managing working capital is required maintaining its liquidity in day-to-day operation to
ensure its smooth running and meets its obligation. Ultimate goal of profitability can be achieved
by efficient use of resources. It is concerned with maximization of shareholders or owners
wealth. It can be attained through financial performance analysis, where financial performance
means firm's overall financial health over a given period of time.
Sri Krishna International Research & Educational Consortium
http://www.skirec.com
- 87 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

The word performance is derived from the word parfourmen, which means to do, to carry
out or to render. It refers the act of performing; execution, accomplishment, fulfillment, etc. In
border sense, performance refers to the accomplishment of a given task measured against preset
standards of accuracy, completeness, cost, and speed. In other words, it refers to the degree to
which an achievement is being or has been accomplished. The performance is a general term
applied to a part or to all the conducts of activities of an organization over a period of time often
with reference to past or projected cost efficiency, management responsibility or accountability
or the like. Thus, not just the presentation, but the quality of results achieved refers to the
performance. Performance is used to indicate firms success, conditions, and compliance.
Financial performance refers to the act of performing financial activity. In broader sense,
financial performance refers to the degree to which financial objectives being or has been
accomplished. It is the process of measuring the results of a firm's policies and operations in
monetary terms. It is used to measure firm's overall financial health over a given period of time
and can also be used to compare similar firms across the same industry or to compare industries
or sectors in aggregation.
LITERATURE SNAPSHOT
The sectoral analysis is typically employed by investors who plan to select better stocks to invest
in. The investors normally identify the most promising sectors and review the performance of
companies within the sector to determine which individual stock would provide better returns
and purchase such stocks. The sectoral efficiency (market) is an important concept which helps
to understand the basic structure of capital and financial strengths. Evaluation and performance
measurement are among the most debated and discussed issues in financial management. The
goal of financial management is to use and allocate capital in a proper way in order to create
maximum value for both stockholder and profit company owners.
There are many different views explaining and extending these concepts in financial
management. The size is so vast, so only the relevant literatures are presented hereunder.
Therefore, some of them, which are felt to be of greater significance and motivating as well, are
listed below. The studies already conducted in the sector analysis in different periods are
summarized below.
The first group of empirical viewpoints comprises accounting models that obtain a firms value
by multiplying firms profit to conversion coefficients with the value of (P/E ratio). The second
group comprises economic models that determine a firms stock value on the basis of its earning
power, potential investment and difference of return rate & capital costs 1.
Maximizing a firms value requires implementing profitable projects. In modern world, because
of the competitive nature of the market, determining methods of proper finance for increasing
profitability and company survival is a vital issue. Due to ownership distance from management,
we need extended finance and also attracting the influx of fund owners toward the use of their
own funds for increasing wealth, analyzing firm performance and financial structure, until a
proper investment level is achieved 2.

Sri Krishna International Research & Educational Consortium

http://www.skirec.com
- 88 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

In terms of financing sources, firms are divided into two categories according to their financing
policy: (1) internal financial funds (2) external financial funds. In internal funds, companies use
gained profit for financing. It means that instead of dividends distribution, they use profit for the
company's operation in order to have higher return. In contrast, external financing companies use
debt and also issue securities 3.
A process which leads to final decision is called financial structure determining methods.
Methods of determining financial structure should be chosen with particular attention to the main
features of securities influenced by internal factors within the firm or other external factors.
Financial managers choose policies related to the financial structure of firms for increasing
stockholders' wealth; they also consider solutions such as debtor equity increase for financing
their projects 4.
In context to this, a study by RBI (2005-06) has observed that the Indian corporate sector has
mobilised a large share of resources from internal sources which accounts for 60.7% during postliberlisation era. Capital market has been considered as a last resort which contributed merely
9.9% during the time. The debt-equity ratio has also declined over the years as the corporate
sector has been able to mobilise resources internally to a significant level to meet its challenges
of financial plans, programmes and policies.
The aim of determining financial structure is to distinguish structure of financial fund in order to
maximize shareholders' wealth. We can consider financial structure as an effective factor on
shareholders wealth. The more bonds a firm issues, the higher will be its breakeven point and
leverage. Otherwise, the profit per share will decline; therefore, financial managers measure
different impacts of different financial structures on shareholders' wealth 5. This is strongly
believed to be the ground reality of every aspects of financial management since inception,
applicable to every company, irrespective of shape, size and age.
The relationship between capital structure and financial performance of the companies is one that
received considerable attention in the finance literature all the time by everyone. How important
is the concentration of control for the company performance or the type of investors exerting that
control are basic questions always that authors have tried to answer for long time prior studies
show that capital structure has relating with corporate governance, which is the key issues of
state owned enterprise. Study of the effects of capital structure on financial performance will
certainly help us to know the potential problems in context to financial performance and capital
size.
Modigliani and Miller paper on the irrelevance of capital structure inspired researchers to debate
on this subject. The debate is still on. However, with the passage of time, new dimensions have
been added to the question of relevance or irrelevance of capital structure. It stated that the
increased expected rate of return generated by debt financing is exactly offset by the risk
incurred, regardless of the financing mix chosen 6.
Some researchers provide the theoretical framework that links capital structure and market
structure. Contrary to the profit maximization objective, these theories are similar to the
corporate finance theory in that they broadly assume that the firm's objective is to maximize the
Sri Krishna International Research & Educational Consortium
http://www.skirec.com
- 89 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

wealth of shareholders. Furthermore, market structure is shown to affect capital structure by

influencing the competitive behavior and strategies of firms. Not a single firm is over-exposed to
greater risk factors by redesigning their either structure (capital & financial) to experience with a
high pressure from possible ends.
B.Nimalathasan & Valeriu Brabete 7 have pointed out capital structure and its impact on
profitability by a study of listed manufacturing companies in Sri Lanka. The analysis of listed
manufacturing companies shows that dept-equity ratio is positively and strongly associated to all
profitability ratios (Gross Profit, Operating Profit & Net Profit Ratios). The proportion of the
debt-equity in the capital structure is also fairly responsible to design the financial structure of
the firms to a greater extent.
Anand Pandey 8 tested the efficiency level of the three popular stock Indices of Indian Stock
Market using the Runs Test and the Autocorrelation Function of ACF. It is found from the
Autocorrelation and Runs Test that the time series of stock indices in the Indian Stock Market
were biased random time series. It is the attitude that is well addressed amongst the financial
researchers to set a new horizon on the investment pattern, that redefine the company financial
pattern.
Kin-Yip Ho and Albert K C Tsui 9 probed the applicability of volatility behavior of aggregate
indices to the sectoral indices. The study doubted the leverage effects of equity returns and also
its bearing on the strategy of portfolio diversification among various sectors. This also raised a
possible question mark on the impact of capital structure on the financial framework in the longrun as because the growth factor is always subject to forecast with uncertainity.
Tasneem Alam and Muhammad Waheed 10 investigated the monetary transmission mechanism
in Pakistan at the sectoral level. The study assessed whether the reform process achieved
notable impact on the monetary transmission mechanism or not. The study found that there was
significant change in the transmission of monetary stock to real sector of the economy during the
post-reform period.
Mufeed Rawashdeh and Jay Squalli 11 tested market efficiency across the four sectors, namely,
Banking, Industrial, Insurances and Services in the Amman Stock Exchange (ASE). The study
found that the random walk and weak form efficiency hypotheses were rejected for all sample
sectors. Besides, the returns of mean values were highly volatile and over inflated stock prices
and frequent market corrections formed a bubble effect. It indicates that investment in all sectors
of the ASE may be very risky in the short run.
Chin Wen Cheog 12 investigated the weak form market efficiency by using daily return of nine
sectoral indices in Malaysian Stock Market. These empirical results were in sharp contrast with
the traditional unit root test which ignored the economic crisis and currency control. The study
found that the sectoral indices of Malaysian Stock Markets were inefficient weak-form (except
the property index).
Selvam.M, Indhumathi.G and Rajesh Ramkumar.R 13 studied the market efficiency of the sample
companies listed on the BSE PSU Index. The study found that the PSU Index performed well
Sri Krishna International Research & Educational Consortium
http://www.skirec.com
- 90 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

during the study period and the investors of PSU companies earned maximum return through
stock market operations.
Financial performance analysis is vital for the triumph of an enterprise. Financial performance
analysis is an appraisal of the feasibility, solidity and fertility of a business, sub-business or
mission. A rich literature has tackled the issue of how the mix between internal and external
funds is linked with firm real performance.
Almeida H Campello and M. & M. Weisbach 14 have observed that the availability of internal
liquidity is a key parameter of firms ability to invest and accomplish the desired expansion
plans. Companies need not to seek the assistance of external financing source as it always has a
higher cot to the capital, thereby adversely affecting the profit and profitability of the firm.
In continuance and contrary to the above literature, Jenson 15 has rightly pointed out that external
debt can be considered as an effective way to reduce the agency cost problems that may lead to
the under-performance of firms. So, confusions emerge in between internal and external source
of financing to reach at a judicious managerial decision.
In the views of Flkender and Petesen 16 the dependence of investment on cash or debt largely
depends on whether the firm is facing an income shortage or, conversely, a high income state.
The authors highlight that there is interplay between firms cash and debt policies as cash
holdings have a significant effect on financing capacity and investment spending in low cashflow states, while debt reductions are a particularly effective way of boosting investment in high
cash-flow states.
Ralf Elsas and David Florysiak 17 write this paper with the aim of evaluating and summarizing
capital structure in German firms and indicate that even with the passing of 50 years from
primary study of Lara and Mesquita yet choosing optimal and ideal capital structure isnt
possible and is the main challenge of researchers. In this study equity is as a positive and
effective factor on capital structure and long term debt shows the reverse position as compared to
that.
Vishnu and Nageswara 18 clearly show that according to empirical evidence there is a
relationship between industrial pricing and type of industry with capital structure and firms
performance is in relation to debt ratios of firm. Comparing method of evaluating firm
performance was equal with industry average in which firms was active and results of this paper
also support of reducing avoidable hypothesis cost at emergency time.
Zeitun and Tian 19 fairly review the relationship between capital structure and firms
performance with the information of 167 Jordan's firm in 1985-2003 and found that there is a
significant relationship between short-run debt ratio to total assets, total debt to total equity with
return of assets. But, the study is silent on the influencing parameter that largely decides the asset
holdings.
Fosberg and Ghosh 20 have done a research on U.S security exchange and New York security
exchange. As companies in New York exchange used debt 5% to 8% more than other companies
Sri Krishna International Research & Educational Consortium
http://www.skirec.com
- 91 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

in their financial structure, it proved that relationship between capital structure and ROA in New
York security exchange is negative
Hackbarth, D., 21 argue that the shareholders-lenders conflict has the effect of shifting risk from
shareholders and of appropriating wealth in their favor as they take on risky investment projects.
Hence, shareholders and managers seek to borrowings to finance risky projects. Lenders receive
interest and principal if projects succeed, and shareholders appropriate the residual income;
however, it is the lender who incurs the loss if the project fails. It is difficult and costly for debt
holders to be able to assess and monitor.
Even though the profitability is constantly a positive factor for every firm, inaccurate working
capital management procedures may lead to bankruptcy. It is, sometime, said that current, acid
test, and cash ratios as traditional measures of liquidity are incompetent and static balance sheet
measures cannot provide detailed and accurate information about management effectiveness.
Attempt made by Nandi 22 to examine the influence of working capital management on corporate
profitability carries a meaningful insight. For assessing impact of working capital management
on profitability of NTPC, Pearson coefficient of correlation and multiple regression analysis
between some ratios relating to working capital management and the impact measure relating to
profitability (i.e., ROI ratio) had been computed and applied. This attempt purposefully
measured the sensitivity of return of investment (ROI) to changes in the level of working capital
leverage (WCL) of the studying company. This spreads the message of positive relationship of
capital structure with that financial structure to logically justify the profitability.
Azhagaiah and Gangadevi 23 studied the leverage and financing decision for the selected 30
electronic companies for the five years period ranging from1998 to 2003. In his study he found
that the company has a high operating leverage should kept low financial leverage and viceversa. So, a companys expected to have low operating leverage with high financial one.
Wide coverage of literature review enlists varieties of approaches to the study of relevance,
undertaken by different school of thoughts; not merely focusing on the proposed study with
specified objectives. The state of research relating to the financial structure of the Indian
Companies is not adequate. The literature is limited to the growth, development, expansion,
working and functional analysis of the units in relation to Indian Companies. Only in a few
studies, the problem of bottlenecks of the Indian companies has also been highlighted. It is felt
that in relation to Indian companies no pin pointed study has been made on the problem of
financial structure. No study has been undertaken analyzing the problem of financial structure
on the basis of prescribed norms, standards and managerial ratios and statistical tools. The
proposed study will focus the financial structure aspect of Indian Companies in India on which
the available literature is in scarcity.
The planning of the financial structure is a must for the measurement of the efficiency of the
Indian Companies. To evaluate the efficiency and performance of Indian Companies, the
measurement of the financial structure is resorted to. The performance and efficiency of Indian
Companies is directly related to financial structure. The poor financial structure may be due to

Sri Krishna International Research & Educational Consortium

http://www.skirec.com
- 92 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

diverse factors. The factors rendering financial structure poor would be sorted out and
highlighted with a view to suggesting remedial measures.
The inspiration for this research work is the generally based on simple observation of the reality
in most literature studies that firms (indeed, the industry-wise company sector) must be able to
finance their activities and grow over time if they are ever to play an increasing and predominant
role in enhancing value-added income in terms of profits, expanding their shape and size in the
economy; generating tax revenue for the government; and, all in all, ensuring sustainability
through scalable performance. So, now-a-days, the corporate houses normally seek to have a
well-structured capital and financial framework would be self-sufficient to materialise the basic
objectives of the enterprise.
REFERENCES
1. Jahankhani, A. & Zarifard, A. (1995). Do Managers & Shareholders Use Proper
Measurement for Evaluating value? Financial research, Vol.7, 8}
2. Nikbakht, M. R. & Peykani, M. (2009). Reviewing Relationship Between Capital Structure
& Accounting Performance Measurement In Listed Firms Of Tehran Stock Exchange,
Financial research, Vol.28, pp 89-104.
3. Titman & Grinblatt, 1998). {Titman, S. M. (1998). Financial markets & corporate strategy,
Mcgrow-Hill, Inc.
4. (Asghari, 2009). {Asghari & et al, (2009). Evaluating Relationship Between Financial
Structure With Firms Profitability, Journal of Bource, 36-51}
5. (Peynor, 2000) {Peynor, R. (1379). Financial Management, translated by: jahankhani,al,&
Parsaiyan Ali, vol.2,Samt publication,6th Edition}
6. Modigliani, F., Miller, M., 1958. The Cost of Capital, Corporation Finance, and the Theory
of Investment. American Economic Review 48, 261297.
7. Nimalathasan, B., Valeriu B., 2010 Capital Structure and Its Impact on Profitability: A Study
of Listed Manufacturing Companies in Sri Lanka (2010), Revista Tinerilor Economisti /The
Young Economists Journal 13,55-61
8. Anand Pandey., 2003. Efficiency of Indian Stock market, Indian Economic Journal, Vol.
36 No: 4, pp. 68-121.
9. Kin-Yip Ho., and Albert K C Tsui., 2004. An Analysis of the Sectoral Indices of Tokyo
Stock Exchange: A Multivariate GARCH Approach with Time Varying Correlations,
Stochastic Finance, Autumn School and International Conference.
10. Tasneem Alam., and Muhammad Waheed., 2004. The Monetary Transmission Mechanism
in Pakistan: a Sectoral Analysis, http://ssrn.com/abstract=971318.

Sri Krishna International Research & Educational Consortium

http://www.skirec.com
- 93 -

APJRBM

Volume 4, Issue 1-2 (January-February, 2013) ISSN 2229-4104

11. Mufeed Rawashdeh., and Jay Squalli., 2005. A Sectoral Efficiency Analysis of the Amman
Stock Exchange, Working Paper No. 05-04.
12. Chin Wen Cheong, 2008. A Sectoral Efficiency Analysis of Malaysian Stock Exchange
Under Structural Break, American Journal of Applied Sciences, Vol 5 No: 10,
pp. 1291- 1295.
13. Selvam M., Indhumathi G., and Rajesh Ramkumar R, (2010). Analysis of Market Efficiency
of BSE- PSU Index, SNS Journal of Finance, 1(3): pp. 1-10.
14. Almeida H., Campello. M. & M. Weisbach. (2004). The cash-flow sensitivity of cash.
Journal of Finance, Vol - 59, Page 1777-1804
15. Jensen (1986), Agency costs of free cash flow, corporate finance, and takeover. American
Economic Review, Vol - 76, Page 323-329.
16. Flkender and Petesen (2006), Does the source of capital affect capital structure? Review of
Financial Studies, Vol - 19, Page 45-79.
17. Ralf, E. & David, F. (2008). Empirical capital structure research: new ideas, recent evidence,
& methodological issues discussion paper 2008-10 Munich Schoo of Management University
of Munichfakultat Fr betriebswirtschaft Ludwig Maximilians-universitat Munche
18. Nageswara, R. & Vishnus, R. (2007). Capital structure, industry pricing, & firm
performance, Proceeding of the 13th Asia pacific management conference Melbourne,
Australia, 2007,280-286
19. Tian, G. G. & Zeitun, R. (2007). Capital Structure & CorporatePerformance, Australasian
Accounting Business & Finance,N 4,P 40.
20. Fosberg, R. H. & Ghosh, A. (2006). Profitability & Capital Structure Of AMEX & NYSE
Firms, Journal of Business & Economics Research, N11,p 57-64
21. Determinants of corporate borrowing: a behavioral perspective. Working paper, Indiana
University.
22. Nandi, K. C (2011), Impact of Working Capital Management on Profitability, A Case Study
of National Thermal Power Corporation Ltd., The Management Accountant, January 2011,
pp.22-27.
23. Azhagaiah. R & Gangadevi. S (2008): Leverage and Financial Decision, The Indian
Journal of Commerce, Vol.61. No.1, January-March 2008, pp.90-98.

Sri Krishna International Research & Educational Consortium

http://www.skirec.com
- 94 -