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Abstract
Capital structure is the imperative area of financial decision making due
to the interrelationship with other financial decision variables. In
finance, capital structure is the controversial subject and endures to
retain scholar’s contemplative. The proportion of debt funding is
measured by long term debt ratios. There are numerous factors that
affect a firm‘s capital structure, and a firm should try to decide the
optimum mix of financing. Therefore, an effort is made in this study to
ascertain the impact of various determinants of capital structure so that
appropriate capital structure could be premeditated by the companies
and create them competitive and cost effective.
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Introduction
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.
Capital structure can be a mixture of a firm's long-term debt, short-term
debt, common equity and preferred equity. A company's proportion of
short- and long-term debt is considered when analysing capital
structure. When analysts refer to capital structure, they are most likely
referring to a firm's debt-to-equity (D/E) ratio, which provides insight
into how risky a company is. Usually, a company that is heavily
financed by debt has a more aggressive capital structure and therefore
poses greater risk to investors. This risk, however, may be the primary
source of the firm's growth.
Debt is one of the two main ways companies can raise capital in the
capital markets. Companies like to issue debt because of the tax
advantages. Interest payments are tax deductible. Debt also allows a
company or business to retain ownership, unlike equity. Additionally,
in times of low interest rates, debt is abundant and easy to access.
Equity is more expensive than debt, especially when interest rates are
low. However, unlike debt, equity does not need to be paid back if
earnings decline. On the other hand, equity represents a claim on the
future earnings of the company as a part owner.
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Company Profile
The IT and FMCG companies taken in this project are:
IT Companies
Every software company is an IT company but every IT company may
not be a software company. For example, a hardware company is an IT
company but not a software company.
IT (Information Technology) is a catch-all for the industry at present,
any job that is primarily to do with the operation of computers or
developing for them is within the "IT industry/sector".
2. Infosys
3. Wipro
Wipro, founded in 1945 entered into the IT domain in the year 1980
and since then has become one of the biggest IT Company in the
world. Headquartered in Bengaluru, India it is headed by Azim Premji,
It was the first software company to get SEI CMMI Level 5 back in
2002. It has been accredited with many first in IT Industry like
introducing Lean Management in Service Industry. Home to more
than 1 lakh 50 thousand people, Wipro Technologies Applying
Thoughts has lead it to be one of the most preferred IT vendors.
Cognitive Systems, Smart Devices, Man-machine Interface are few of
the future drivers it has been focusing on. Wipro has been selected by
DJSI as World Member for the fifth consecutive year and is also
recognised with prestigious Golden Peacock Award 2014 in the
category of ‘Innovative Product/Service’ for Wipro’s Assure Health
Solutions.
4. HCL Technologies
FMCG Companies
FMCG companies, such as Unilever, Procter & Gamble and GSK,
create and distribute products that are typically bought by consumers
frequently (essentially they move from a retailer's shelves to the
consumer very quickly).
2. ITC Limited
ITC reach to its customer or consumers in many segments of business
rather than FMCG. Established in 1910 as the Imperial Tobacco
Company of India Limited, the company was renamed as the Indian
Tobacco Company Limited in 1970 and further to I.T.C. Limited in
1974. Some of the brand of this company are very much famous by its
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3. Britannia Industries
The company was established in 1891, with an investment of Rs.265
Initially, biscuits were manufactured in a small house in central
Kolkata. Later, the enterprise was acquired by the Gupta brothers
mainly Nalin Chandra Gupta. Today, Britannia is a leading food
company in India with over Rs. 7858 crores in revenue, delivering
products in over 5 categories. Britannia is s leading brand in the market
of dairy with the help of its integrated cold chain logistics. It’s main
focus is to maintain the quality and freshness of the food product.
Britannia is recognized as one of the most trusted, valuable and
popular brands among Indian consumers in various reputed surveys.
Research Methodology
Debt/Equity (D/E) Ratio, calculated by dividing a company’s total
liabilities by its stockholders' equity, is a debt ratio used to
measure a company's financial leverage. The D/E ratio indicates
how much debt a company is using to finance its assets relative to
the value of shareholders’ equity.
The formula for calculating a company's degree of financial
leverage (DFL) measures the percentage change in earnings per
share over the percentage change in EBIT. DFL is the measure of
the sensitivity of EPS to changes in EBIT as a result of changes in
debt.
Data Analysis
IT Companies:
1. TCS – Tata Consultancy Services
We can see that the Financial Leverage of the company is constant i.e.,
1.00 times in the last 5 years. Financial Leverage measures the financial
risk of the company. Here the financial leverage being low is a plus
point for the equity shareholders as the earning per share will increase
because interest on borrowings is low.
We can also see in the table that over the past 5 years the ROI is
fluctuating very much. From March’15 to March’18 the ROI has
decreased from 42.34% to 33.52%. It may be due to poor management
performance or a highly conservative business approach.
We can also see that after March’16, the amount of loan has also
decreased, which might help to increase the EPS.
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2. Infosys
We can also see in the table that there is a continuous rise and fall in
ROI. As on March’17 the ROI is 20.32% and in March’18 it has
increased to 25.44%, indicating that investment gains compare
favourably to investment costs. But if we compare ROI in March’15
i.e., 25.31% to ROI in March’16 i.e., 20.78%, we can say that the
company could not gain that much of return on investment as
compared to its cost in March’15.
3. Wipro
In the table given aside, it says about company’s performance. As we
can see that the company’s Average Debt-Equity Ratio is 0.14 which is
good for the company. The company is taking advantage of the
increased profits that the financial leverage may bring. We can see that
from March’15 to March’18, the Debt to Equity ratio is decreasing. It
can be an indication that the company is reducing its borrowing capital,
reducing its financial risks and increasing the return to shareholders.
We can also see that the borrowings of the company is reducing which
is resulting as a decrease in D/E ratio and Financial Leverage.
4. HCL Technologies
In the table given aside, it says about company’s performance. As we
can see that the company’s Debt-Equity Ratio is 0.00 for all the years
taken which is very good for the company. It indicates that the
company has taken less borrowings and is open to take more
borrowings (loans, debentures) from the market. The company can
also go for Convertible debentures.
We can also see in the table that there is a continuous rise and fall in
ROI. As on March’17 the ROI is 48.14% and in March’18 it has
decreased to 26.42%, indicating that investment gains compare
unfavourably to investment costs. But if we compare ROI in March’16
i.e., 22.69% to ROI in March’17 i.e., 48.14%, we can say that the
company gained very good return on investment as compared to its
cost in March’17.
FMCG Companies
1. HUL – Hindustan Unilever Limited
In the table given aside, it says about company’s performance. As we
can see that the company’s Debt-Equity Ratio is 0.00 for all the years
taken which is very good for the company from a point of view. The
reason behind the D/E ratio being 0 is that the company’s debt is 0 i.e.,
the company has not borrowed any loans, etc. But, we can also say that
the company is not taking advantage of the increased profits that the
financial leverage may bring.
The ROI of the company is gradually increasing from the last 5 years.
It has increased from 64.79% (in March’14) to 74.02% (in March’18).
It is a very good indication for the company that investment gains
compare favourably to investment costs.
2. ITC Limited
In the table given aside, it says about company’s performance. As we
can see that the company’s Debt-Equity Ratio is 0.00 for all the years
taken which is very good for the company from a point of view. The
reason behind the D/E ratio being 0 is that the company’s debt is 0 i.e.,
the company has not borrowed any loans, etc. But, we can also say that
the company is not taking advantage of the increased profits that the
financial leverage may bring.
We can also see that the ROI of the company is gradually falling. On
March’15 ROI was 31.22% and it decreased to 21.83% in March’18.
We can say that we can say that the company could not gain that much
of return on investment as compared to its cost in these years or the
company is ignoring its potential risks, etc.
We can also see that the ROI of the company is gradually falling. On
March’15 ROI was 50.34% and it decreased to 29.30% in March’18.
We can say that we can say that the company could not gain that much
of return on investment as compared to its cost in these years or the
company is ignoring its potential risks, etc.
We can see that the ROI of the company has increased from 18.68%
(March’14) to 21.54% (March’18) in the last 5 years. It is indicating that
investment gains is more than investment costs, thus investments have
been made carefully considering the risks.
We can also determine from the table that the ROA of the company
has increased over the past 5 years. It is due to proper allocation of
amount invested in assets as well as idle assets are low.
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We can also see from the table that the company is increasing its
borrowings which will be resulting in aggressive capital structure and
more financial risk but on the other hand the return to shareholders
will be vulnerable.
We can see that the ROI of the company has increased from 35.33%
(March’14) to 24.21% (March’18) in the last 5 years. It is indicating that
investment gains is more than investment costs, thus investments have
been made carefully considering the risks. Decrease in ROI also takes
place due to increase in borrowings.
We can also see that the ROA of the company is gradually rising and
falling over the years. But from March’16, the ROA is decreasing
gradually. We can say that the since the past three years the company
may not be investing in its assets properly.
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Comparison
Intra-Industry
IT Industry
As we can see from the table that the debt to equity ratio is 0 for all the
companies except of Infosys i.e., 0.14. It indicates that Infosys has
more debt compare to others while others are free to take more
borrowings. So the financial risk taken by Infosys is more than others
and the earning per share is reduced.
We see that Oracle & Infosys do not have borrowings, in other words
they are self-sufficient and have less risk. While HCL Tech. and TCS
are moderately dependent on borrowed capital whereas Wipro has the
highest borrowed capital thus bearing the highest risk and liability. As
the Financial Leverage measures the financial risk of a company, we
can see from the table that Wipro has the highest financial risk i.e.,
1.04 times whereas all other companies have Financial Leverage
approx. 1 times which means they have less risk and less borrowings
compare to Wipro.
As we can see from the table that TCS has the highest ROI i.e., 36.64%
and Wipro has the lowest i.e., 20.66%. This might be because the
profitability of TCS is high as well as the investments have been made
considering all the risks while Wipro’s borrowings have direct effect on
its ROI as well as they might be ignoring potential risk. While the ROI
all other companies is near to the average ROI of the industry. ROA
indicates how well a company is performing by comparing the profit it’s
generating to the capital it’s invested in assets. As we can see from the
table that TCS has the highest ROA i.e., 29.29% whereas Wipro has
the lowest i.e., 14.30%. This might be because TCS has allocated its
assets in the optimal way and has less idle assets while Wipro’s
management is not taking wise decisions in allocating its resources or
the company has reduced the prices and lowered its margin and also
the high borrowings of Wipro have affected its ROA. While the ROA
of all other companies is fairly near to average ROA of the Industry.
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FMCG Industry
As we can see from the table that the debt to equity ratio is almost 0 for
all the companies except of Dabur i.e., 0.05. It indicates that Dabur has
more debt compare to others while others are free to take more
borrowings. So the financial risk taken by Dabur is more than others
and the earning per share is reduced.
We see that HUL do not have borrowings and Britannia has minimal
borrowings, in other words they are self-sufficient and have less risk.
While ITC and Godrej are moderately dependent on borrowed capital
whereas Dabur has the highest borrowed capital thus bearing the
highest risk and liability.
As we can see from the table that HUL has the highest ROI i.e.,
67.70% and Godrej has the lowest i.e., 19.66%. This might be because
the profitability of HUL is high as well as the investments have been
made considering all the risks while Godrej’s borrowings have direct
effect on its ROI as well as they might be ignoring potential risk. While
the ROI all other companies is near to the average ROI of the industry.
Inter - Industry
As we can see from the table that the debt to equity ratio of IT industry
i.e., 0.03 is more than the FMCG industry i.e., 0.01. It indicates that IT
has more debt capital compare to FMCG. So the financial risk taken by
IT industry is more than FMCG industry and the earning per share is
reduced. And the FMCG industry is open to take more borrowings
compare to IT industry.
As we can see from the table that FMCG industry has the high ROI
i.e., 36.58% and IT has the low i.e., 27.78%. This might be because the
investments have been made considering all the risks while IT’s
borrowings have direct effect on its ROI as well as they might be
ignoring potential risk.
Conclusion
Capital Structure plays a very important role in any company’s overall
growth and prosperity. A sound capital structure of a company helps to
increase the market price of shares and securities which, in turn, lead to
increase in the value of the firm. A good capital structure enables a
business enterprise to utilise the available funds fully. A properly
designed capital structure ensures the determination of the financial
requirements of the firm and raise the funds in such proportions from
various sources for their best possible utilisation. A sound capital
structure protects the business enterprise from over-capitalisation and
under-capitalisation.
From this project we see how the top FMCG & IT firms of India
organise their capital structure. We compare the individual companies
of the similar industry as well the two industries after which we analyse
and interpret the data to find out which companies are performing
better and how the capital structure affects their profitability, their
return on investment along with their return on assets. Through the
project we learn how to interpret data i.e., the financial figures of every
company.
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Reference
. Balance sheet, Statement of Profit & Loss and Ratios –
www.moneycontrol.com