REVIEW OF LITERATURE

Modigliani and Miller (1958) were the first ones to landmark the topic of capital structure and they argued that the capital structure was irrelevant in determining the firms value and its future performance. Hatfield et al., (1980) demonstrated that the presence of corporate tax shield substitutes for debt implies that each firm has a "unique interior optimum leverage decision. When firms which issue debt are moving toward the industry average from below, the market will react more positively than when the firm is moving away from the industry average. We examine this hypothesis by classifying firms' leverage ratios as being above or below their industry average prior to announcing a new debt issue. We then test whether this has an effect on market returns for shareholders. Our overall finding is that the relationship between a firm's debt level and that of its industry does not appear to be of concern to the market. Pinegar and Wilbricht (1989) opined that principal agent problem can be dealt with to some extent through the capital struc ture by increasing the debt level and without causing any radical increase in agency cost. Perotti and Spier (1993) presented a strategic model of temporarily high leverage. When the repayment of senior claims depends in part upon further investment, shareholders may be able to alter credibly their incentives to invest through on exchange of junior debt for equity and thereby force concessions from senior creditors. We focus on the conflict between shareholders and riskaverse workers and show that this strategic use of debt leads to an inefficient allocation of risk. We characterize conditions under which firms will undergo leveraged recapitalizations, their choice of debt instruments, and the dynamics of their capital structure.

Sunder and Myers (1999) tested traditional capital structure models against the alternative of a pecking order model of corporate financing. The basic pecking order model, which predicts external debt financing driven by the internal financial depicit, has much greater time series explanatory power than a static tradeoff model, which predicts that each firm adjusts gradually

toward an optimal debt ratio. We show that our tests have the power to reject the pecking order against alternative tradeoff hypotheses. The statistical power of some usual tests of the tradeoff model is virtually nil.

Baker and Wurgler (2002) stated that firms are more likely to issue equity when their market values are high, relative to book and past market values, and to repurchase equity when their market values are low. We document that the resulting effects on capital structure are very persistent. As a consequence, current capital structure is strongly related to historical market values. The results suggest the theory that capital structure is the cumulative outcome of past attempts to time the equity market.

Zeitun and Tian (2004) investigated the effect which capital structure has had on corporate
performance using a panel data sample representing of 167 Jordanian companies during 19892003. Our results showed that a firms capital structure had a significantly negative impact on the firms performance measures, in both the accounting and markets measures. We also found that the short-term debt to total assets (STDTA) level has a significantly positive effect on the market performance measure. The Gulf Crisis was found to have a positive impact on Jordanian corporate performance while the outbreak of Intifadah in the West Bank and Gaza in September 2000 had a negative impact on corporate performance.

Song (2005) analyzed the explanatory power of some of the theories that have been proposed to explain variations in capital structures across firms. An analysis of determinants of leverage based on total debt ratios may mask significant differences in the determinants of long and shortterm forms of debt. Therefore, this paper studies determinants of total debt ratios as well as determinants of short-term and long-term debt ratios. The results indicate that most of the determinants of capital structure suggested by capital structure theories appear to be relevant for firms. But we also find significant differences in the determinants of long and short-term forms of debt. Due to data limitations, it was not possible decompose short-term debt and long-term debt into its elements, but the results suggest that future analysis of capital choice decisions should be based on a more detailed level.

Kisgen (2006) examined to what extent credit ratings directly affect capital structure decisions. The paper outlines discrete costs (benefits) associated with firm credit rating level differences and tests whether concerns for these costs (benefits) directly affect debt and equity financing decisions. Firms near a credit rating upgrade or downgrade issue less debt relative to equity than firms not near a change in rating. This behavior is consistent with discrete costs (benefits) of rating changes but is not explained by traditional capital structure theories. The results persist within previous empirical tests of the pecking order and tradeoff capital structure theories.

Aggarwal and Hara (2007) investigated the effects of information necessary across equity investor groups as an explanation for the capital structure decisions of the firm. We test empirically whether differences in information across outside investors have any bearing on the leverage ratios of firms and on their choice of financing instrument when using external capital. We use the probability of information based trading (PIN) estimated using trade based data to test our theory. We find that firms with higher information risk measured using PIN has higher market leverage. Extrinsic information asymmetry also seems to play a significant role in the firms decision to issue debt or equity when raising capital, with high PIN firms more likely to issue debt. These results strongly support the hypothesis that information risk affects capital structure after controlling for information asymmetry between firm managers and outside investors.

Amsaveni (2009) examined the investment decision relates to the selection of assets in which fund will be invested by a firm. The finance decision is concerned with the selection of right mix of debt and equity in its capital structure. The third decision is related to the distribution of surpluses i.e. the dividend policy of the firm. The tool leverage is used in the study to analyze the profitable proceedings of the Primary aluminium industry in India.

Myers (2009) examined international diversification and financial leverage in a simultaneous equations model to understand how they affect profitability after accounting for the endogeneity between strategic and financial decisions. An analysis of hotel companies showed an inverted Ushaped relationship between financial leverage and profitability , implying an optimal leverage

pattern for maxim um profitability. The study also found that international diversification significantly, but not indirectly, in fluencies the profitability of hotel firms through the moderating role of leverage. This indicates that financial leverage is more closely related to profitability than international diversification. However, the results also suggest that the effect of international diversification still needs to be considered when making financial decisions.

Sanjay (2009) studied that corporate finance , financing decision has gained greater importance because the optimal capital structure can be created through proper mix of finance. Corporate managers generally prefer borrowings over other means of financing. Management of a company has to be very careful while deciding the extent of financial leverage in its capital structure because the right use of financial leverage can increase the shareholders wealth whereas its improper use would adversely affect the interest of shareholders. This study comprises the empirical effects of corporate capital structure (financial leverage) on cost of capital and the market value of selected firms of Indian Cement Industry for the period from 2000-01 to 200708. The research evidence of the study indicates that no impact of financial leverage on cost of capital was found in the cement industry in India, i.e. no significant linear relationship between the financial leverage and cost of capital exists, and there is no correlation between the financial leverage and total valuation within the cement industry. Or in other words, financial leverage does not affect the total valuation of a firm in the cement industry in India.

Singh (2010) had mainly focused on firms in developed countries and little attention is given on how firms in developing and emerging market decide on its capital structure strategy. Therefore with a sample of 155 main listed companies from four selected ASEAN stock exchange indexlinks components for the period from 2003 to 2007, this study found that profitability and growth opportunities for all selected ASEAN countries exhibit statistical significant with inverse relationship with leverage. Whereas non-debt tax shield has significant negative impact on leverage mainly for Malaysia index link companies only. Firm size shows a positive significant relationship for Indonesia and Philippine index link companies. As for the country-effect factors; stock market capitalization and GDP growth rate show significant relationship with leverage while bank size and inflation indicate insignificant impacts on leverage. These determinants that

influence the developing counties are almost similar and are as predicted by existing theories of capital structure.

Virani et al. (2010) investigated that the investment decision relates to the selection of assets in which funds will be invested by a firm. The finance decision is concerned with the selection of right mix of debt and equity in its capital structure. The third decision is related to the distribution of surpluses i.e. the dividend policy of the firm. Needless to say, the dividend decision is based on the success of the first two decisions, i.e. the investment and financing decisions. The tool leverage is used in the study to analyze the profitable proceedings of the primary Pantaloon India ltd.

Sharma (2011) pointed out two common problems in capital structure research. First, although it is not clear whether non-financial liabilities should be considered debt, they should never be considered as equity. Yet, the common financial-debt-to-asset ratio (FD/AT) measure of leverage commits this mistake. Thus, research on increases in FD/AT explains, at least in part, decreases in non-financial liabilities. Future research should avoid FD/AT altogether. The paper also quantifies the components of the balance sheet of large publicly traded corporations and discusses the role of cash in measuring leverage ratios. Second, equity-issuing activity should not be viewed as equivalent to capital structure changes. Empirically, the correlation between the two is weak. The capital structure and capital issuing literature are distinct. Raiyani Jagdish R.(2011) Studied financing decision are one of the most critical areas for finance managers. It has direct impact on capital structure and financial risk of the companies. It has always been an area for interest for researchers to understand relationship between capital structure and financial risk of the company. Antao et al., (2012) explored the process of convergence to firms target leverage ratios. Using a unique dataset of micro, small, medium and large firms, we find that this process is very fast, most notably for smaller firms. We further explore these results by analyzing different convergence trajectories. We find that firms that are currently below their target leverage ratio take more time to reach this target than firms with a symmetrical departure point. Furthermore, smaller firms are able to converge faster to their optimal capital structure, regardless of whether

they have to increase or decrease their current leverage ratios. Using a duration analysis framework, we also find that firms that have to increase debt to reach their target leverage ratio take more time to do so if they have more free cash-flow.

Mutiala (2012) examined the optimum level of capital structure through which a firm can increase its financial performance using annual data of ten firms spanning a five-year period. The results from Im, Pesaran & Shine unit root test show that all the variables were non-stationary at level. The study hypothesized negative relationship between capital structure and operational firm performance. However, the results from Panel Least Square (PLS) confirm that asset turnover, size, firms age and firms asset tangibility are positively related to firms performance. Findings provide evidence of a negative and significant relationship between asset tangibility and ROA as a measure of performance in the model. The implication of this is that the sampled firms were not able to utilize the fixed asset composition of their total assets judiciously to impact positively on their firms performance. Hence, this study recommends that asset tangibility should be a driven factor to capital structure because firms with more tangible assets are less likely to be financially constrained.

Naik (2012) analyzed that liberalization of Indian economy, there has been an upsurge in research on company finance, particularly aimed at understanding how companies finance their activities and why they finance their activities in these specific ways. In practice, it is observed that finance managers use different combinations of debt and equity. The present study is aimed at to find out the trend and pattern of financing by the Indian companies before and after the liberalization. The sheer size and diversity of the Indian capital market are, on their own, more than sufficient reasons for investigating Indian company financing in depth. In addition, the liberalization of the market offers a unique laboratory for evaluating the development of companies as liberalization proceeds. In this study, we attempt to compare and contrast the capital structure of Indian corporate before and after liberalization. Going beyond this, we examine the impact of liberalization and changes if any noticed due to liberalization, on the capital structure of Indian companies. Effort is also made to analyze the capital structure decisions of Indian companies in the recent past.

Song Han-Suck (2005), Capital Structure Determinants- An Empirical Study of Private Companies CESIS Singh G. (2010), A Review of Optimal Capital Structure Determinant of Selected ASEAN Countries International Research Journal of Finance and Economics, Issue 47. Muritala T.A. (2012), An Empirical Analysis of Capital Structure on Firms Performance in Nigeria International Journal of Advances in Management and Economics, Vol.1, Issue 5,116-124. Sharma (2011), Two Common Problems in Capital Structure Research: The Financial-Debt-ToAsset Ratio and Issuing Activity Versus Leverage Changes International Review of Finance, pp. 117. Naik R (2012), Capital Structure of Indian Corporate: Changing Trends Asian journal of management research, ISSN 2229 3795 Anto P., Bonfim D. & Portugal B.E.(2012), The dynamics of capital structure decisions Economics and Research Department, ISSN 0870-0117. Hatfield G.B, Cheng L.W., and Davidson W.N. (1980), The determination of optimal capital structure: the effect of firm and industry debt ratios on market value Journal of Financial and Strategic Decisions, Volume 7 Number 3. Zeitun G. and Tian G. (2004), Capital structure and corporate performance Australasian Accounting Business and Finance Journal, Volume 1, Issue 4. Baker M. and Wurgler J. (2002), Market Timing and Capital Structure The journal of finance, Vol. l., VII, No. 1.

Kisgen J.D., (2006), Credit Ratings and Capital Structure The journal of finance, Vol. LXI, No. 3. Perotti E.C and Spier K.E. (1993), Capital structure as a abargaining tool: the role of leverage in control renegotiation The American Review Journal, Vol. 83, No.5. Sunder L.S. and Myers S.C., (1999), Testing static tradeo against pecking order modelsof capital structure , Journal of Financial Economics, Vol No. III.