INTRODUCTION

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CHAPTER 1 - INTRODUCTION

Capital structure is a mixture of debt and equity, this decision is very important for a company as
it is a cost for the company because it is borrowed money. This decision is very critical for the
company because of different tax implications of debt equity and also the effect of corporate
taxes on the profitability and revenues of the firm. Firms must be careful in their borrowing
activities in order to avoid financial distress, excessive risk and even bankruptcy.

A firm's debt/equity ratio also effect the firm's borrowing costs and reduces its’ value to
shareholders. The debt/equity ratio also measures the company's financial leverage by dividing
company’s’ total liabilities by stockholders' equity. It tells that how much proportion of equity
and debt has the company used to finance its assets. In the financing decision a company has to
decide its capital structure. Here the debt & equity ratio is decided.

The capital structure decision or a financing decision shown on the left side indicates Liabilities
on the balance sheet while investment decision shown on the right side indicates Assets on the
balance sheet. The capital structure shows the relative relationship between debt & equity.
Capital structure does not have much impact on the earnings of firms but it surely affects the
share of Earning attainable for the equity share holders .

OPTIMAL CAPITAL STRUCTURE

The optimal capital structure of a company shows its’ best debt/equity ratio which maximizes its
value. i.e., the optimal capital structure for a company is the one which offers a balance between
the pastoral debt/equity ranges thus minimizing the firm’s cost of capital. Theoretically, debt
financing usually offers the low cost of capital as it is tax deductible.

The long and short term debt ratio of a company should also be taken into account during
examining its’ capital structure. Capital structure is commonly referred as a firm’s debt/equity
ratio that gives information about the level of risk of a company which the potential investors
might face. Estimating best/ optimal capital is a most important requirement of a company’s
corporate finance dept.

The best capital structure for a firm is one which gives it a balance between ideal debt/equity
ranges and reduces the cost of capital of a firm. It is known that debt financing generally offers
low cost of capital because of its tax deductibility. But, it is not often the optimal structure
because a company's risk increases as debt increases.

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If a company’s debt/equity ratio is high it means that a company has been assertive in financing
its growth with debt. This might result in fickle earnings as a result of the expense in form of
interest. If a company use lot of debt to finance increased operations, the company can generate
more revenues than it would have without using outside financing. If debt financing increases
earnings by an amount greater than the debt cost i.e. interest, then the shareholders reap more
benefits as increased earnings are divided among the same number of shareholders. But at times
the cost of debt financing can outweigh the return which the company earns on the debt through
investment. Insufficient returns may force a company towards bankruptcy and leave shareholders
at losses.
The debt to equity ratio of a company is also dependent on the industry in which it operates. For
example, industries which are capital intensive, such as auto manufacturing generally have a debt
to equity ratio above 2, while IT and Software companies generally have a debt to equity ratio of
under 0.5. If a company wants to change its capital structure it can be done by issuing debt to
buy back the outstanding equities or if the company wants to reduce its debt component then it
can be done by issuing new stock and then using the proceeds to return debt. By issuing new
debt the company increases its’ debt/equity ratio and by issuing new equity it lowers the debt-to-
equity ratio. If the weighted average cost of capital (WACC) is minimized the maximizes the
value of the firm increases. This means that optimal capital structure for the firm is that which
minimizes WACC.
The capital structure of a firm shows how it finances its operations and grows by using
distinctive sources of funds. Debt for a company comes in the form of bonds issued or long-term
notes payable, on the other hand equity is sorted as common stock, preferred stock and retained
earnings. Short-term debt for example working capital requirements are also considered to be a
part of a capital structure. When capital structure of a firm is talked off, it is understood that they
are referring to a firm's debt/equity ratio, which provides understanding about how risky a
company is. Usually a company which is more heavily financed by using debt poses more risk,
as the firm is relatively highly levered.

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FACTORS INFLUENCING A COMPANY'S CAPITAL-STRUCTURE DECISION

The main or primary factors that affects the company's capital-structure decision are:

1. Business Risk 

Business risk is one of the most important risks in company's operations. Higher the risk in
business, lower will be the optimal debt to equity ratio. For example, if we compare a utility
company with that of a retail apparel company. Earnings of a utility company are generally more
stable. The reason for this stability is its’ revenue system which is stable. But, a retail apparel
company has a potential for more variability in its incomes because the sales in this industry is
driven mostly by trends in fashion industry, the retail apparel company’s’ business is much
higher. That is why, a retail apparel company mostly have low optimal debt ratio. It is done in
order to make investors feel comfortable with company’s ability to meet long term and short
term obligations.

2. Company's Tax Exposure

Interest payments on debt are tax deductible. Companies in order to save their share of profit,
from giving to government increase the debt component in their capital structure. Companies
take advantage of high tax rate by using debt as a source of financing a project. It is attractive as
the tax deductibility of the debt save some income from tax.

3. Financial Flexibility

It shows the ability of firm to raise capital at difficult times. Companies generally have no
problem in raising capital from the market when they are growing and their earnings are strong.
However, companies should try to be careful in raising capital when the times are good, not
stretching its limit too far . Lower the company's debt level, higher will be the financial
flexibility of the company. For example, The airline industry which in good times, generates
significant sales and thus cash flow. But in difficult times, this situation is changes and the
industry gets into a position where it requires borrowing funds. At times when an airline
becomes debt ridden, its’ ability to raise money from the market decreases because investors
doubts the ability of an airline to pay back its current debt when it goes for new debt loaded on
top

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4. Management Style 

The style of management ranges from conservative to aggressive. The company goes for more
debt in their capital structure when they have an aggressive management style. It is because by
doing this management tries to grow firm quickly, by using large amount of debt. On the other
hand if a company has conservative management style they try not to go for debt as it becomes
impossible for a company to manage debt during difficult times.

5. Growth Rate

Firms that are in the growth stage of their cycle typically finance their growth through debt,
borrowing money to grow faster is a general trend for new companies. The major default that
arises in this approach is that the earnings and revenues of growth firms are unstable and
unproven. And in such situations high debt is not appropriate. The firms which are more stable
and mature need less debt to finance their growth also its’ revenues are stable . These firm also
generate huge cash flows which can be used to finance any new project which they want to come
up with.

6. Market Conditions

Market conditions can have a huge impact on the condition of a capital structure of a company.
Suppose if a firm wants to borrow funds for its’ new plant, and if the market is struggling, which
means that investors are limiting the access of the companies' to capital because of prevailing
market concerns, In these condition interest rate of borrowing may be higher for a company
which would want to pay. In such situation, it may be important for a company to wait till
markets return to normal conditions or state.

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CAPITAL STRUCTURE

Capital structure decision takes into account two things of a company , they are
1 Cost of equity
2 Cost of debt

Cost Of Equity

Cost of equity is the expected return that stockholders expect on their investment when they
invest in any company. The traditionally used theory used in calculating cost of equity is
dividend capitalization model. The firm's cost of equity shows the compensation that is
demanded by market in exchange for becoming owner of the assets of the company and bearing
the risk of having their ownership. Any firm or company that receives or earns a return on
equity in addition or in excess excess of its cost of equity capital has added value.

Calculating the Cost of Equity

The cost of equity at times is tricky to find out or calculate as there is no explicit cost that the
share capital carries. Whereas debt, on the other hand has predetermined interest rate which the
company must pay, equity does not have a fixed price that a company has to pay but this does
not mean that there is no cost included in equity, its’ just that the cost in equity is not fixed.

Common shareholders of the firm expect to obtain returns certain on their investment in equity
of the company. The expected rate of return of equity share holders is the cost from the point of
view of the company because if they do not give this expected return to the shareholders they
will simply sell the company’s’ shares, which will lead to fall in the prices of the shares. The cost
of equity can also be stated as the costs that a company pays to maintain a share price that is
good for shareholders and which theoretically satisfies them.

On the following basis, the commonly accepted method for calculating cost of equity comes
from the Nobel Prize-winning capital asset pricing model (CAPM): The formula for calculating
cost of capital is

Re=rf +(rm –rf)*β 

Here:

 Re = Required rate of return on equity

 rf = Risk free rate
 rm – rf = Market risk premium
 β = beta coefficient i.e. unsystematic risk

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  Rf – Risk-free rate – It is the amount found out from investing in the securities which
are considered to be free from credit related risk, example of such securities are
government bonds of developed countries. The interest rate on U.S. Treasury Bills  is
generally used as a proxy , in lieu for the risk-free rate.

 ß – Beta – It measures that how much sensitivity is there in companies share against the
market. A beta of value one, shows that the company moves in sink or line with market.
If the beta exceeds one, the share is overrating the market's movements; value of beta less
than one suggests that the shares are more stable. At times, a company may have beta in
negative which means that the share prices move in the direction that is opposite to the
broader market. For public sector companies, one can easily find database services
which publish betas.

(Rm – Rf) = Equity Market Risk Premium (EMRP) – It (EMRP) shows the returns that
investors expect companies to compensate to them in return of the extra risk that they have
taken by investing in the company’s’ stock market instead of risk-free rate. It means that it is the
difference between market rate and risk- free rate. Many specialist argue that EMRP has gone
up because of the belief and notion that holding shares of a company becomes more risky.
The EMRP which is generally cited is based on the historical average yearly excess return which
is obtained from investing in stocks market over and above the risk-free rate. This average is
either calculated on the basis of arithmetic mean or geometric mean.

Once the cost of equity for the company is calculated, certain adjustments can be made in it to
take into account the risk factors which are specific to the company, it may increase or decrease
the risk profile of a company. Such factors include in them the size of the company, lawsuits
which are pending ,concentration of customer base and also dependence on key employees.
Adjustments in this are entirely a matter of judgment of investors, and they differ from company
to company.

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THE COST OF DEBT

Cost of debt normally refers to the interest paid by company on the loan it has taken. The cost of
deb can be either calculated either before tax returns or after tax returns. Though, the expenses
incurred on interest are deductible, the cost which is taken after cost is considerable. However
capital structure includes cost of equity and cost of debt in it.
The cost of equity at times is tricky to find out or calculate as there is no explicit cost that the
share capital carries. Whereas debt, on the other hand has predetermined interest rate which the
company must pay, equity does not have a fixed price that a company has to pay but this does
not mean that there is no cost included in equity, its’ just that the cost in equity is not fixed.

Calculation of cost of debt-

1. Collect information.-It For personal debt, long term notes are required along with equity lines
of credit,mortgage and credit cards is required. For corporate debt, bond certificates of the
company are required.

2. Compute the weighted average cost of debt on corporate debt or personal debt. Form a
spreadsheet with Column A as “Type of Debt”, Column B as “Cost of Debt”, and Column C as
the “Amount” associated with each type of debt. Also, if there are numerous interest rates
consigned to one debt, they should be separated.

3. Create another spreadsheet to estimate the cost of debt for corporate debt by the use of long
term debt.

4. Include a column D to both the spreadsheets as “Weight.” To compute the weight, take the
total of Column C or the amount of debts. In column D, to obtain”Weight”, divide column C by
the total of Column C thus obtaining the average of each dollar amount. The weights should
figure to 1.00.

5. Multiply the interest rate (column B) by the weighting (column D). This would be called
Column E (Weighted rate). Add this column to obtain the WAC of debt.

6. Calculate the after tax rate. Thereafter, take the rate in Step 5 and multiply it with (1-marginal
tax) thus reaching the after tax cost of debt. 

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THEORIES OF CAPITAL STRUCTURE

The Modigliani-Miller Theorem

The theory of business finance in a modern sense starts with the Modigliani and Miller (1958)
capital structure irrelevance proposition. Before them, there was no generally accepted theory of
capital structure. Modigliani and Miller start by assuming that the firm has a particular set of
expected cash flows. When the firm chooses a certain proportion of debt and equity to finance its
assets, all that it does is to divide up the cash flows among investors. Investors and firms are
assumed to have equal access to financial markets, which allows for homemade leverage. The
investor can create any leverage that was wanted but not offered, or the investor can get rid of
any leverage that the firm took on but was not wanted. As a result, the leverage of the firm has
no effect on the market value of the firm.

Their paper led subsequently to both clarity and controversy. As a matter of theory, capital
structure irrelevance can be proved under a range of circumstances. There are two fundamentally
316 different types of capital structure irrelevance propositions. The classic arbitrage-based
irrelevance propositions provide settings in which arbitrage by investors keeps the value of the
firm independent of its leverage. In addition to the original Modigliani and Miller paper,
important contributions include papers by Hirshleifer (1966) and Stiglitz (1969). The second
irrelevance proposition concludes that “given a firm’s investment policy, the dividend payout it
chooses to follow will affect neither the current price of its shares nor the total return to its
shareholders” (Miller and Modigliani, 1961). In other words, in perfect markets, neither capital
structure choices nor dividend policy decisions matter.

The 1958 paper stimulated serious research devoted to disproving irrelevance as a matter of
theory or as an empirical matter. This research has shown that the Modigliani-Miller theorem
fails under a variety of circumstances. The most commonly used elements include consideration
of taxes, transaction costs, bankruptcy costs, agency conflicts, adverse selection, lack of
separability between financing and operations, time-varying financial market opportunities, and
investor clientele effects. Alternative models use differing elements from this list. Given that so
many different ingredients are available, it is not surprising that many different theories have
been proposed. Covering all of these would go well beyond the scope of this paper. Harris and
Raviv (1991) provided a survey of the development of this theory as of 1991.

As an empirical proposition, the Modigliani-Miller irrelevance proposition is not easy to test.

With debt and firm value both plausibly endogenous and driven by other factors such as profits,
collateral, and growth opportunities, we cannot establish a structural test of the theory by
regressing value on debt207. But the fact that fairly reliable empirical relations between a

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number of factors and corporate leverage exist, while not disproving the theory, does make it
seem an unlikely characterization of how real businesses are financed.

A popular defense has been to argue as follows: “While the Modigliani-Miller theorem does not
provide a realistic description of how firms finance their operations, it provides a means of
finding reasons why financing may matter.” This description provides a reasonable interpretation
of much of the theory of corporate finance. Accordingly, it influenced the early development of
both the trade-off theory and the pecking order theory.

The Trade-Off Theory

The term trade-off theory is used by different authors to describe a family of related theories. In
all of these theories, a decision maker running a firm evaluates the various costs and benefits of
alternative leverage plans. Often it is assumed that an interior solution is obtained so that
marginal costs and marginal benefits are balanced. The original version of the trade-off theory
grew out of the debate over the Modigliani-Miller theorem. When corporate income tax was
added to the original irrelevance, this created a benefit for debt in that it served to shield earnings
from taxes. Since the firm's objective function is linear, and there is no offsetting cost of debt,
this implied 100% debt financing. Several aspects of Myers' definition of the trade-off merit
discussion. First, the target is not directly observable. It may be imputed from evidence, but that
depends on adding a structure. Different papers add that structure in different ways. Second, the
tax code is much more complex than that assumed by the theory. Depending on which features
of the tax code are included, different conclusions regarding the target can be reached. Graham
(2003) provides a useful review of the literature on the tax effects. Third, bankruptcy costs must
be deadweight costs rather than transfers from one claimant to another. The nature of these costs
is important too. Haugen and Senbet (1978) provide a useful discussion of bankruptcy costs. 207
Fama and French (1998) and Kemsley and Nissim (2002) provide related discussions. 317
Fourth, transaction costs must take a specific form for the analysis to work. For the adjustment to
be gradual rather than abrupt, the marginal cost of adjusting must increase when the adjustment
is larger. Leary and Roberts (2005) describe the implications of alternative adjustment cost
assumptions.

The Market timing theory

The market timing theory of capital structure argues that firms time their equity issues in the
sense that they issue new stock when the stock price is perceived to be overvalued, and buy back
own shares when there is undervaluation. Consequently, fluctuations in stock prices affect firms

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capital structures. There are two versions of equity market timing that lead to similar capital
structure dynamics. The first assumes economic agents to be rational. Companies are assumed to
issue equity directly after a positive information release which reduces the asymmetry problem
between the firm’s 208 The pecking order theory was first introduced by Donaldson (1961), in a
survey study among american firms. 209 Helwege and Liang (1996) find that the probability of
raising external finance is unrelated to the internal funds deficit, and that firms that could have
obtained bank loans often choose to issue equity instead. This also contrasts with the static
pecking order model. 319 management and stockholders. The decrease in information
asymmetry coincides with an increase in the stock price. In response, firms create their own
timing opportunities. The second theory assumes the economic agents to be irrational (Baker and
Wurgler, 2002). Due to irrational behaviour there is a time-varying mispricing of the stock of the
company. Managers issue equity when they believe its cost is irrationally low and repurchase
equity when they believe its cost is irrationally high. It is important to know that the second
version of market timing does not require that the market actually be inefficient. It does not ask
managers to successfully predict stock returns. The assumption is simply that managers believe
that they can time the market. In a study by Graham and Harvey (2001), managers admited
trying to time the equity market, and most of those that have considered issuing common stock
report that "the amount by which our stock is undervalued or over- valued" was an important
consideration. This study supports the assumption in the market timing theory mentioned above
which is that managers believe they can time the market, but does not immediately distinguish
between the mispricing and the dynamic asymmetric information version of market timing.

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 LITERATURE
REVIEW

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CHAPTER 2- LITERATURE REVIEW

Dr. Garima Dalal,(2013), The study makes an attempt to find the relationship that exist between
capital structure of a firm and its value and author has also tried to find the importance of
differences that are there in the capital structure of different companies – inter and intra industry.
Statistical tools were used on data which was collected for a total of 12 companies. The study
finds out that difference in capital structure of the companies whether they belonged to the same
industry or different groups, was found to be statistically significant. This was because of the
reason that qualitative values of various determining factors of capital structure and their impact
on the firms’ value vary on company to company basis. In this research Co-efficient of
correlation among cost of capital and capital structure was found out to be negative. This result
supports the view point that an increase in the leverage of a firm decreases its’ cost of capital
because debt is less costly than equity. It is because this relationship gets affected by a large
number of factors, which includes both quantitative and qualitative. The effect of these factors
on this relationship cannot be isolated.

Ms Neha Poddar; Dr. Manish Mittal (2012) This paper by the author studies various financial
decision which are of great significance for the companies. A wrong decision on part of the
management regarding capital structure can lead a firm to financial distress. This paper finds out
that management of a firm tries to set up a capital structure which will help to maximize the
value for the firm, and thy do this by choosing different levels of financial leverage in order to
attain the best capital structure. It is studied in this paper that though there is a criteria of optimal
capital structure but no set methodology has been defined to achieve it. Thus this paper mainly
focuses at analyzing some of the characteristics of the firm that might affect the leverage of steel
companies of India. Capital structure of Indian steel companies weather large/medium had under
gone several changes due to the growth in global demand of the product and increase in the
infrastructure development activities. This has helped the steel industry to grow at large scale by
reducing debt. Due to higher demand of steel both in global & domestic market opportunities for
their expansion has increased.

Ashok Kumar Pinigrahi (2012) This paper tries to find out the presence of difference in the
capital structure of the firms and the implication or impact of these variation or differences in the
capital structure The author has evaluated the financing pattern in 300 Indian private sector
companies which belong to different sectors from 1999-2000 to 2007-2008 and by selecting top
15 companies in each of these sectors The technique of fund flow analysis, correlation analysis
and ratio analysis was used to find out the differences in the capital structure of different
industries and the reason why that why such differences occur .The result of his study shows that

13
there is a systematic difference in the capital structure of firms across different industries as far
as the debts as a proportion of total capital structure is concerned . In his studies it is shown that
debt/ equity ratio of manufacturing based company is double than that of companies which are
service based .Contrary to the common belief that firms with more borrowing capacity should
borrow more in order to take tax benefits, it was found that on an average debt/equity ratio small
firms is approximately three times that of large sized firms. His findings show that how different
Indian companies behave from the standardized western corporate financial theories.

Dr.Anurag Pahuja, Ms. Anu Sahi (2012) The paper aims at analyzing the factors that determine
the capital structure that generally Indian companies have . The dependent variable is debt to
equity ratio and the independent variables assumed are profitability, growth, tangibility and size
To draw a conclusion the data of 30 companies from BSE Sensex (it is a sensitivity index) was
taken into account .The time period taken into consideration was from 2008-10 .This paper tries
to identify the determinants of capital structure with the help of correlation and regression
analysis. Liquidity and growth are the two major determinants of the capital structure of the firm.

Takeo Hoshi, Anil Kashyap and David Scharfstein ,(2012) This paper tries to bring out hard
evident proofs that information and incentive affect the investment decision in the capital market.
The conclusion was drawn after investigating two Japanese firms. The first set has close
financial ties with the large Japanese firms, which act as their primary source of external finance
and they are likely to be well kept or informed about the firm. The second type of firms had
weak links with the banks and thus they faced huge problems in raising capital. The analysis also
shows or highlights the role that financial intermediaries play in the investment process.

Ashok Kumar Panigrahi (2010) This paper tries to find out what are the ways in which firms
finance their activities in certain specific ways and what are the reason for which they take this
decision. This paper tries to study or tries to find out the pattern in which Indian companies
financed their capital structure before and after the liberalization . In this research paper, an
attempt was made compare the capital structure of Indian companies pre and post liberalization.
Further,an examination of the affect of liberalization and changes that have come due to
liberalization, on the capital structure of Indian companies was also studied. Efforts have been
made in order to analyze and evaluate the capital structure decisions of Indian firms in the recent
past.

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Jianjun Miao and Erwan Morellec(2006),This article shows a tractable framework used
analyzing the effect of macro economic conditions on the probability of bankruptcy, financial
policy and debt capacity. Empirical evidence shows that debt levels found through this
framework are lower than those predicted by previous models. The debt levels that this model
show are in line with the ones generally seen in corporate practice. Incorporation of these
macroeconomic conditions in our structural model gives the basis for such pervasive phenomena
as clustering of exit decisions observed in many industries and markets. It is seen through this
study that firms should have dynamic capital structure choice and that it should adjust their debt
levels more often and generally by smaller amount during booms than in recessions.

Baker and Wurgler (2002) This research paper provides an evidence that timing of the equity
market has a constant effect on the capital structure of the company. The market timing is
defined as a measure, which is a weighted average of outside capital needs in the past few years,
here the rate used are in terms of market to book values of the company. It is found out that
leverage changes positively and strongly related to firms market timing measure, so it is found
out that the capital structure of a company is the cumulative outcome of previous attempts to
time the equity market.

Westhead and Storey (1997) This paper tries to find and develop a variety of regression
equations by making use information by doing a survey of 171 SMEs located in the science
parks in the U.K. The equation regress show the extent of difficulty which the firm faces in
getting finance based on a wide range of firm features, It include the level to which a firm is high
tech. Expenditure in combination to turnover, the age of firm; legal status of the firm; industrial
sector; growth rate of the firm; profitability; and location. The authors conclude in the paper that
firms with high R&D expenditure are more likely to face continuing financing constraints.

15
 RESEARCH
METHODOLOGY

16
CHAPTER-3 RESEARCH METHODOLOGY

3.1 Objective
To study the past trends of capital structure of different industries.
To study current capital structure of different industry.
To study capital structure followed by market leaders.
To study factors which affect capital structure decision of a company.

3.2 Research Design

Research design may be broadly classified as exploratory research, conclusive research and
descriptive research. The research which is used in the project is:

3.2.1 Exploratory Research

The objective of exploratory research is to explore or search through a problem or situation to
provide insights and understanding. Exploratory research is meaningful in which the researcher does
not have enough understanding to proceed with the research project. Typically there is a little prior
knowledge at the disposal of a researcher to build upon.
This research is used in the project as the research does not have any questionnaire and to explore the
solution of the problem that whether all sector/ industry can have same capitalization. This research
is used to gain insight for developing an approach to the problem and to establish priorities for
further research.

3.3 Sampling
The sample for the research has been collected from market leaders of different industry

3.4 Data collection

The research was based upon data collected from secondary sources.

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3.4.1 Secondary Source
Secondary data are the data that have already been collected for purpose other than the problem
at hand. Secondary data can further be classified as either internal or external. Internal data are
those generated within the organization for which the research is being conducted. External
data are those generated by sources outside the organization. In the project external data was
used that is the websites to fetch the data on stock price of the companies and other data for the
project.

3.5 Limitation
The data collected is secondary in nature.
A detailed study was not possible due to shortage of time.
The accuracy of the tools used depends on the accuracy of the published accounts.

18
 DATA
INTERPRETATI
ON

19
CHAPTER 4- DATA INTERPRETATION

DEFINITION

DEBT- TO – EQUITY RATIO

The debt-to-equity ratio (debt/equity ratio, D/E) is a financial ratio indicating the relative
proportion of entity's equity and debt used to finance an entity's assets. This ratio is also known
as financial leverage.
Debt-to-equity ratio is the key financial ratio and is used as a standard for judging a company's
financial standing. It is also a measure of a company's ability to repay its obligations. When
examining the health of a company, it is critical to pay attention to the debt/equity ratio. If the
ratio is increasing, the company is being financed by creditors rather than from its own financial
sources which may be a dangerous trend. Lenders and investors usually prefer low debt-to-equity
ratios because their interests are better protected in the event of a business decline. Thus,
companies with high debt-to-equity ratios may not be able to attract additional lending capital.

Calculation (formula)

A debt-to-equity ratio is calculated by taking the total liabilities and dividing it by the
shareholders' equity:
Debt-to-equity ratio = Liabilities / Equity

Norms and Limits

Optimal debt-to-equity ratio is considered to be about 1, i.e. liabilities = equity, but the ratio is
very industry specific because it depends on the proportion of current and non-current assets.
The more non-current the assets (as in the capital-intensive industries), the more equity is
required to finance these long term investments.
For most companies the maximum acceptable debt-to-equity ratio is 1.5-2 and less. For large
public companies the debt-to-equity ratio may be much more than 2, but for most small and
medium companies it is not acceptable. US companies show the average debt-to-equity ratio at
about 1.5 (it's typical for other countries too).

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In general, a high debt-to-equity ratio indicates that a company may not be able to generate
enough cash to satisfy its debt obligations. However, a low debt-to-equity ratio may also indicate
that a company is not taking advantage of the increased profits that financial leverage may bring.

DEFINATION

RETURN ON CAPITAL EMPLOYED

Return on capital employed (ROCE) is a measure of the returns that a business is achieving from
the capital employed, usually expressed in percentage terms. Capital employed equals a
company's Equity plus Non-current liabilities (or Total Assets − Current Liabilities), in other
words all the long-term funds used by the company. ROCE indicates the efficiency and
profitability of a company's capital investments.

ROCE should always be higher than the rate at which the company borrows otherwise any
increase in borrowing will reduce shareholders' earnings, and vice versa; a good ROCE is one
that is greater than the rate at which the company borrows.

Calculation (formula)

ROCE = EBIT / Capital Employed

A more accurate variation of this ratio is return on average capital employed (ROACE), which
takes the average of opening and closing capital employed for the time period.

One limitation of ROCE is the fact that it does not account for the depreciation and amortization
of the capital employed. Because capital employed is in the denominator, a company with
depreciated assets may find its ROCE increases without an actual increase in profit.

21
1. AUTO AND ANCILLARY INDUSTRY

Companies 2009 2010 2011 2012 2013

Tata Motors 1.0601 1.1203 0.7301 0.56001 0.7401

Mahindra & 0.7701 0.3608 0.2209 0.2607 0.2202

Mahindra
Bajaj Auto 0.8301 0.4506 0.06605 0.0161 0.0091

Maruti Suzuki India 0.0741 0.0607 0.01201 0.0709 0.0701

Hero Motocorp 0.0201 0.0191 0.5001 0.2308 0.0605

Table 1.1Showing debt to equity ratio of auto and ancillary industry.

1.2

0.8
Tata Motors
Mahindra & Mahindra
0.6
Bajaj Auto
Maruti Suzuki India
Hero Motocorp
0.4

0.2

0
2009 2010 2011 2012 2013

Graph 1.1-Showing data of debt to equity ratio of ancillary industry.

22
AUTO AND ANCILLARY INDUSTRY

Companies 2009 2010 2011 2012 2013

Tata Motors 6.4109 10.3706 10.7501 10.2601 5.9504

Mahindra & Mahindra 13.9904 27.7008 27.501 23.8501 25.4209

Bajaj Auto 32.8006 59.0101 67.5707 59.0112 32.8011

Maruti Suzuki India 15.9208 13.5303 67.5701 64.2408 53.5107

Hero Motocorp 43.3312 75.0701 52.1302 49.5706 48.5704

Table 1.2 - Showing return on capital employed of auto and ancillary industry

80

70

60

50
Tata Motors
Mahindra & Mahindra
40
Bajaj Auto
Maruti Suzuki India
30 Hero Motocorp

20

10

0
2009 2010 2011 2012 2013

Graph 1.2 - Showing graph of return on capital employed of auto and ancillary industry

23
INFERENCEXCOMPANIES CORRELATION
Tata Motors -0.18867
Mahindra & Mahindra -0.90561
Bajaj Auto -0.3998
Maruti Suzuki India -0.45759
Hero Motocorp -0.18395

Table 1.3- Showing correlation between D/E ratio and ROCE D/E ratio and ROCE

CORRELATION
0
-0.1
-0.2
-0.3
-0.4 CORRELATION
-0.5
-0.6
-0.7
-0.8
-0.9
-1

Graph 1.3- Showing correlation between D/E ratio and ROCE

The debt to equity ratio of Tata motors is higher than others companies in the industry, but it has
shown a downward trend in the following years. The debt to equity ratio from 2009-13 are 0.55,
0.40, 0.30, 0.22 and 0.21 respectively. The highest ratio is maintained by Tata motors in all the
following years which shows that it is risky to invest in Tata motors as compared to others, the
investors will prefer companies with low D/E ratio since it is less riskier.

Return on capital employed is highest for her motocorp, so it is a good investment opportunity.
Also it is very risky to invest in companies like tata motors because they have high D/E ratio but
low return on capital employed.

In the correlation between D/E ratio and return on capital employed of respective companies
show that there is negative correlation between both which means higher debt leads to low return
on capital employed, and it is same for all the companies.

CONCLUSION

The debt component is an important part of capital structure of auto and ancillary industry
because requires huge capital investment., that is why debt is high in companies of this sector.

24
2. SOFTWARE INDUSTRY

XCOMPANIES 2009 2010 2011 2012 2013

TCS 0.0031 0.00231 0.00213 0.00382 0.00455

Infosys 0 0 0 0 0

Wipro 0.4001 0.3102 0.1901 0.2109 0.1601

Hcl Technologies 0.1409 0.2807 0.1401 0.1005 0.0601

Oracle Financial 0 0 0 0 0

Table 2.1 Showing debt to equity ratio of software companies.

0.45

0.4

0.35

0.3
TCS
0.25
Infosys
Wipro
0.2
Hcl Technologies
Oracle Financial
0.15

0.1

0.05

0
2009 2010 2011 2012 2013

Graph 2.1 - Showing graph of debt to equity ratio of software companies.

SOFTWARE INDUSTRY

25
XCOMPANIES 2009 2010 2011 2012 2013

TCS 43.2701 42.4612 44.3811 55.3119 48.0765

Infosys 0 0 0 0 0

Wipro 26.7701 23.0601 22.4401 22.0411 26.7234

Hcl Technologies 32.3905 20.4405 20.7419 33.6456 41.7123

Oracle Financial 0 0 0 0 0

Table 2.2- Showing table of ratio of capital employed of software industry

60

50

40
TCS
Infosys
30
Wipro
Hcl Technologies
Oracle Financial
20

10

0
2009 2010 2011 2012 2013

Graph 2.2- Showing table of return on capital employed of software industry.

INFERENCEXCompanies Correlation

26
TCS 0.656522
Infosys 0
Wipro 0.303271
Hcl Technologies -0.79825
Oracle Financial 0

Table 2.3- Showing correlation between D/E ratio and ROCE

Correlation
0.8

0.6

0.4

0.2
Correlation
0
TCS Infosys Wipro Hcl Technologies Oracle Financial
-0.2

-0.4

-0.6

-0.8

-1

Table 2.3- Showing correlation between D/E ratio and ROCE

The D/E ratio of all the software companies is relatively lower which means debt component in
the capital structure of the company is low or in case of Infosys and oracle financial it is not
there.The return on capital employed is higher for companies who have high debt component in
there debt structure. Also it means that investment in companies with debt component will reap
higher returns.

The correlation between D/E ratio and ROCE shows positive signs for two companies that is for
TCS AND Wipro but there is negative correlation between D/E and ROCE of HCL
technologies, which means high debt component is hampering it’s return.

CONCLUSION

The debt component is very low in capital structure of the companies which means they prefer to
go for Equity and like to maintain the ownership of the company

3. BANKING IDUSTRY

27
XCOMPANIES 2009 2010 2011 2012 2013

HDFC 9.66 8.38 8.78 9.04 9.09

SBI 15.9 13.75 16.21 13.9 13.87

ICICI Bank 5.72 5.73 6.08 6.55 6.56

Axis Bank 12.48 9.87 11.34 11.14 8.95

Kotak Mahindra Bank 5.51 6.61 5.99 6.9 7.54

Table 3.1- Showing debt to equity ratio of banking industry

18

16

14

12
HDFC
10
SBI
ICICI Bank
8
Axis Bank
Kotak Mahindra Bank
6

0
2009 2010 2011 2012 2013

Graph 3.1- Showing debt to equity ratio of banking industry

BANKING INDUSTRY

28
COMPANIES 2009 2010 2011 2012 2013

HDFC 20.82 17.32 19.34 20.98 20.63

SBI 15.78 11.52 11.65 13.18 11.61

ICICI Bank 9.45 7.92 8.79 9.48 10.04

Axis Bank 18.57 16.19 15.88 15.82 15.01

Kotak Mahindra Bank 9.05 11.52 12.19 12.81 12.72

Table3.2 - Showing table of return on capital employed of banking software

25

20

15 HDFC
SBI
ICICI Bank
10 Axis Bank
Kotak Mahindra Bank

0
2009 2010 2011 2012 2013

Graph 3.2 - Showing graph of return on capital employed of banking sector.

INFERENCE

29
XCOMPANIES CORRELATION
HDFC 0.84404
SBI 0.41977
ICICI Bank 0.672916
Axis Bank 0.802017
Kotak Mahindra Bank 0.790808

Table 3.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.9

0.8

0.7

0.6

0.5 CORRELATION

0.4

0.3

0.2

0.1

0
HDFC SBI ICICI Bank Axis Bank Kotak Mahindra Bank

Table 3.3- Showing correlation between D/E ratio and ROCE

The debt component in high for all banks. The D/E ratio is high for all the banks. It is because it
requires high liquidity due to day to day transactions. The debt is highest in capital structure of
SBI followed by Axis bank and HDFC .

The return on capital employed is highest for HDFC bank followed by Axis bank and SBI. From
the data on ROCE it is evident that private sector companies are giving high returns.

The correlation between Debt to equity ratio and Return on capital employed suggest that high
debt component leads to high returns that is why there is positive correlation for all the banks.

4. METALS AND MINING

30
XCOMPANIES 2009 2010 2011 2012 2013

Coal India 0.1101 0.08 0.0602 0.0591 0.0441

Hindustan Zinc 0.0006 0.0033 0.0000017 0.000014 0.000012

NMDC 0 0 0 0 0

Tata Steel 0.9003 0.6704 0.5501 0.4502 0.4601

Jindal Steel and Power 0.9102 1.2402 1.3109 1.3203 1.5732

Table 4.1- Showing D/E ratio of metals and mining industry

1.8

1.6

1.4

1.2
Coal India
1
Hindustan Zinc
NMDC
0.8
Tata Steel
Jindal Steel and Power
0.6

0.4

0.2

0
2009 2010 2011 2012 2013

Graph 4.1- Showing graph of D/E ratio of metals and mining industry

METALS AND MINING

31
COMPANIES 2009 2010 2011 2012 2013

Coal India 23.8701 23.9812 26.1306 44.85 50.3945

Hindustan Zinc 25.790 31.080 29.3600 28.16 26.5482

NMDC 66.880 40.2687 58.1505 49.3601 36.5101

Tata Steel 16.891 14.9301 16.4300 14.9902 11.75

Jindal Steel and Power 25.23 17.5603 18.26 16.14 11.5302

Table 4.2- Showing table of return on capital employed of metals and mining industry.

80

70

60

50
Coal India
Hindustan Zinc
40
NMDC
Tata Steel
30 Jindal Steel and Power

20

10

0
2009 2010 2011 2012 2013

Graph 4.2 - Showing graph of return on capital employed of metals and mining industry

INFERENCE

32
XCOMPANIES CORRELATION

Coal India -0.74749

Hindustan Zinc 0.663933

NMDC 0

Tata Steel 0.630764

Jindal Steel and Power -0.98568

Table 4.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.8
0.6
0.4
0.2
0 CORRELATION
Coal India Hindustan Zinc NMDC Tata Steel Jindal Steel and Power
-0.2
-0.4
-0.6
-0.8
-1
-1.2

Table 4.3- Showing correlation between D/E ratio and ROCE

The debt to equity ratio shows high debt component for Coal India , Tata steel and Jindal steel is
high bt there is negligible debt component in Hindustan Zinc and no debt in NMDC.

The return on capital employed is highest for NMDC which has no debt component in it’s capital
structure followed by Hindustan zinc which has low debt component in it’s capital structure .

The correlation between D/E ratio an ROCE shows contradictory result , for hindustan zinc and
tata steel there is a positive correlation which means high debt lad to high returns but in case of
coal india and Jindal power steel there is a negative correlation.

5. TELECOM INDUSTRY

33
XCOMPANIES 2009 2010 2011 2012 2013
Bharti Airtel 0.2700 0.1300 0.2301 0.2800 0.2300
Idea Celular 0.6602 0.5601 0.8502 0.7800 0.801
Bharti Infratel 0 0 0 0.0000067 0
Reliance Communications 0.8100 0.5902 0.4801 0.6503 0.6100
Tata communications 0.1100 0.3400 0.3600 0.3101 0.1300

Table 5.1 - Showing D/E ratio of telecom industry

0.9

0.8

0.7

0.6
Bharti Airtel
0.5
Idea Celular
Bharti Infratel
0.4
Reliance Communications
Tata communications
0.3

0.2

0.1

0
2009 2010 2011 2012 2013

Graph 5.1- Showing D/E ratio of telecom industry

TELECOM INDUSTRY

34
XCOMPANIES 2009 2010 2011 2012 2013

Bharti Airtel 33.17 26.27 18.51 13.97 12.41

Idea Celular 13.46 9.4 6.23 7.8 9.02

Bharti Infratel 3.46 2.68 3.74 4.81 8.16

Realiance Communications 8.97 0.2 -0.02 1.84 3.71

Tata communications 10.99 5.83 3.82 5.19 9.25

Table 5.2- Table showing return on capital employed of telecom industry

40

35

30

25
Bharti Airtel
20 Idea Celular
Bharti Infratel
15 Realiance Communications
Tata communications
10

0
2009 2010 2011 2012 2013
-5

Graph 5.2- Showing graph of return on capital employed of telecom industry

INFERENCE

35
XCOMPANIES CORRELATION
Bharti Airtel -0.1896
Idea Celular -0.60735
Bharti Infratel 0.062488
Realiance Communications 0.90703
Tata communications -0.96872

Table 5.3- Showing correlation between D/E ratio and ROCE

CORRELATION
1.5

0.5
CORRELATION
0

-0.5

-1

-1.5

Graph 5.3- Showing correlation between D/E ratio and ROCE

The debt to capital structure for telecom industry is comparatively low when compared to
general industry norms of 1:1. The debt component in capital structure of idea cellular and
reliance communications is very high while for airtel and tata it’s low.

The return on capital employed is higher for airtel also it’s debt component is comparatively
lower than other also return of other companies is lower who’s debt component is high.The
correlation shows positive relation for reliance and bharti airtel while it is negative for others.

6. PHARMA INDUSTRY

36
XCOMPANIES 2009 2010 2011 2012 2013

Sun Pharma 0.0045 0.00515 0.0075 0.0051 0.0055

Dr. Reddy's Laboratories 0.12 0.09 0.23 0.22 0.2

Lupin 0.68 0.35 0.31 0.26 0.11

Cipla 0.21 0.00085 0.066 0.0016 0.1

GlaxoSmithKline Pharma 0.0036 0.003 0.0026 0.0025 0.002

Table 6.1- Showing D/E ratio of pharma industry

0.8

0.7

0.6

0.5
Sun Pharma
Dr. Reddy's Laboratories
0.4
Lupin
Cipla
0.3 GlaxoSmithKline Pharma

0.2

0.1

0
2009 2010 2011 2012 2013

Graph 6.1-Showing D/E ratio of pharma companies

PHARMA INDUSTRY

37
XCOMPANIES 2009 2010 2011 2012 2013

Sun Pharma 27.31 17.38 23.31 23.57 8.42

Dr. Reddy's Laboratories 13.55 17.79 15.23 16.9 20.07

Lupin 22.29 25.6 23.01 23.04 33.96

Cipla 19.93 24.18 17.97 19.84 23.53

GlaxoSmithKline Pharma 46.71 45.83 46.91 31.05 43

Table 6.2- Showing return on capital employed of pharma industry.

50

45

40

35

30 Sun Pharma
Dr. Reddy's Laboratories
25
Lupin
20 Cipla
GlaxoSmithKline Pharma
15

10

0
2009 2010 2011 2012 2013

Graph 6.2 - Showing graph of return on capital employed of pharma industry

INFERENCE

38
XCOMPANIES CORRELATION
Sun Pharma -0.03541
Dr. Reddy's Laboratories 0.148782
Lupin -0.67976
Cipla -0.22368
GlaxoSmithKline Pharma 0.389738

Table 6.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.6

0.4

0.2

0 CORRELATION

-0.2

-0.4

-0.6

-0.8

Table 6.3- Showing correlation between D/E ratio and ROCE

The D/E ratio of Lupin is highest in the industry , while it is comparatively lower for Dr. reddy’s
and cipla but it is lower for sun pharma and Glaxo smith Kline is lower. The debt component
exist for all the companies capital structure but it varies depending on the demand of the
company. The return on capital employed is positive for all the companies , but is highest for
Glaxosmithkline pharma which has low debt in it’s capital structure.

The correlation between D/E Ratio and ROCE shows positive correlation for three companies
except lupin and cipla, these companies have high debt component in them which shows there
can be relation on the basis of companies need.

7. FMCG INDUSTRY

39
Companies 2009 2010 2011 2012 2013

ITC 0.0129 0.0076 0.0062 0.0042 0.0029

Hindustan Unilever 0.2 0 0 0 0

Nestle India 0.0017 0 0 0.76 0.58

United Spirits 0.61 0.73 0.7 0.58 0.52

Godrej Consumer Products 0.117 0.014 0.17 0.094 0.09

Table 7.1- Showing D/E ratio of FMCG industry

0.8

0.7

0.6

0.5
ITC
Hindustan Unilever
0.4
Nestle India
United Spirits
0.3 Godrej Consumer Products

0.2

0.1

0
2009 2010 2011 2012 2013

Graph 7.1- Showing D/E ratio of FMCG companies

FMCG INDUSTRY

40
X 2009 2010 2011 2012 2013

ITC 37.38 43.65 48.85 51.66 52.45

Hindustan Unilever 152.15 107.16 112.07 112.47 161.12

Nestle India 173.13 174.16 159.56 89.87 62.01

United Spirits 16.05 12.86 12.33 12.18 11.96

Godrej Consumer Products 44.16 42.07 41.85 33.98 22.32

Table 7.2- Showing table of return on capital employed of FMCG industry

200

180

160

140

120 ITC
Hindustan Unilever
100
Nestle India
80 United Spirits
Godrej Consumer Products
60

40

20

0
2009 2010 2011 2012 2013

Graph 7.2- Showing graph of return on capital employed of FMCG industry.

INFERENCE

41
XCOMPANIES CORRELATION

ITC -0.98212

Hindustan Unilever 0.507293

Nestle India -0.92909

United Spirits 0.058455

Godrej Consumer Products 0.092747

Table 7.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.6

0.4

0.2

0
CORRELATION
-0.2

-0.4

-0.6

-0.8

-1

-1.2

Table 7.3- Showing correlation between D/E ratio and ROCE

The D/E ratio of FMCG companies is very different ,on one hand ITC and Nestle have low debt
component in their capital structure while nestle and united spirits maintain a very high debt
component.

The ROCE is high for Hindustan unilever and nestle, but there is negative correlation in ITC and
Nestle but it is positive for hinustan unilever , united spirits and godrej.

8. INFRASTRUCTURE AND CONSTRUCTION INDUSTRY

42
X 2009 2010 2011 2012 2013

Larsen and Toubro 0.52 0.37 0.28 0.32 0.27

Jaiprakash Associates 1.94 2.08 2.01 1.3 1.51

Reliance Infrastructure 0.61 0.27 0.22 0.49 0.5

GMR Infrastructure 0.07 0.44 0.33 0.38 0.52

Engineers India 0 0 0 0 0

Table 8.1- Showing table of D/E ratio of infrastructure and construction industry

2.5

1.5 Larsen and Toubro

Jaiprakash Associates
Reliance Infrastructure
1 GMR Infrastructure
Engineers India

0.5

0
2009 2010 2011 2012 2013

Graph 8.1 - Showing graph of D/E ratio of infrastructure and construction industry

INFRASTRUCTURE AND CONSTRUCTION

43
X 2009 2010 2011 2012 2013

Larsen and Toubro 24.14 22.49 21.95 20.66 20.02

Jaiprakash Associates 9.53 8.61 9.52 10.87 8.2

Realiance Infrastructure 6.22 8.08 6.28 10.78 9.88

GMR Infrastructure 2.05 0.81 2.09 3.38 3.47

Engineers India 33.47 59.16 53.91 49.59 0

Table 8.2 - Showing table of return on capital employed of infrastructure and construction
industry

70

60

50

40 Larsen and Toubro

Jaiprakash Associates
Realiance Infrastructure
30 GMR Infrastructure
Engineers India
20

10

0
2009 2010 2011 2012 2013

Graph 8.2- Showing graph of return on capital employed of infrastructure and construction
industry.

INFERENCE

44
XCOMPANIES CORRELATION
Larsen and Toubro 0.877561
Jaiprakash Associates -0.40567
Realiance Infrastructure 0.249058
GMR Infrastructure 0.228785
Engineers India 0

Table 8.3- Showing correlation between D/E ratio and ROCE

CORRELATION
1

0.8

0.6

0.4
CORRELATION
0.2

-0.2

-0.4

-0.6

Table 8.3- Showing correlation between D/E ratio and ROCE

The debt component exist in capital structure of all the infrastructure and construction company
which by it’s very nature requires huge capital. The debt component is highest in Jaiprakash
Associates capital structure.

The ROCE is highest for Engineers India but comparatively lower for others. The correlation
between D/E and ROCE is is negative for Jaiprakash Associates which had highest debt
component. Thus it shows that high debt leads to low returns.

9. REAL ESTATE

45
XCOMPANIES 2009 2010 2011 2012 2013

DLF 0.77 0.98 1.09 0.82 0.75

Oberoi Realty 0.011 0 0 0 0

Unitech 2.6 0.6 0.59 0.26 0.25

Prestige Estates 1.91 1.81 2.01 0.49 0.52

Godrej Properties 1.03 1.49 0.55 0.92 0.8

Table 9.1- Showing table of D/E of real estate industry

2.5

2
DLF
Oberoi Realty
1.5
Unitech
Prestige Estates
Godrej Properties
1

0.5

0
2009 2010 2011 2012 2013

Graph 9.1.- Showing graph of D/E of real estate industry

REAL ESTATE INDUSTRY

46
XCOMPANIES 2009 2010 2011 2012 2013

DLF 0.77 0.98 1.09 0.82 0.75

Oberoi Realty 0.011 0 0 0 0

Unitech 2.6 0.6 0.59 0.26 0.25

Prestige Estates 1.91 1.81 2.01 0.49 0.52

Godrej Properties 1.03 1.49 0.55 0.92 0.8

Table 9.2- Showing table of return on capital employed of real estate industry

35

30

25

20 DLF
Oberoi Realty
Unitech
15 Prestige Estates
Godrej Properties
10

0
2009 2010 2011 2012 2013

Graph 9.2- Showing graph of return on capital employed of real estate industry

INFERENCE

47
 COMPANIES CORRELATION

DLF -0.54069

Oberoi Realty -0.47714

Unitech 0.946815

Prestige Estates 0.351631

Godrej Properties 0.467617

Table 9.3- Showing correlation between D/E ratio and ROCE

CORRELATION
1.2
1
0.8
0.6
0.4 CORRELATION
0.2
0
DLF Oberoi Realty Unitech Prestige Estates Godrej Properties
-0.2
-0.4
-0.6
-0.8

Table 9.3- Showing correlation between D/E ratio and ROCE

The debt component in all the real estate components is high. The debt component is coming
down in the capital structure of the companies in the following years at a considerable rate . The
debt component is high in Unitech, godrej properties and prestige estates.

The ROCE is almost similar in all years baring the first. The return on capital employed of
oberoi realty is highest in all years instead of low or negligible debt component.

The correlation shows negative relation between D/E ratio and ROCE for DLF and Oberoi
Realty is negative which means high debt will lead to low returns and vice versa. While it is
positive for other three which means higher debt will lead to high returns for these companies.

10. POWER INDUSTRY

48
COMPANIES 2009 2010 2011 2012 2013

NTPC 0.58 0.59 0.63 0.64 0.66

Power Grid Corp.of India 2.1 2.1 1.8 2.27 2.62

Jindal Steel & Power 0.91 1.24 1.31 1.32 1.57

NHPC 0.06 0.59 0.59 0.62 0.62

Tata Power Co. 0.6 0.56 0.63 0.78 0.9

Table 10.1- Showing D/E ratio of power sector companies

2.5

2
NTPC
Power Grid Corp.of India
1.5
Jindal Steel & Power
NHPC
Tata Power Co.
1

0.5

0
2009 2010 2011 2012 2013

Graph 10.1- Showing debt to equity ratio of power sector companies.

POWER INDUSTRY

XCOMPANIES 2009 2010 2011 2012 2013

49
NTPC 12.27 12.45 11.32 11.37 12.56

Power Grid Corp.of India 12.97 9.73 11.09 12.29 12.16

Jindal Steel & Power 23.16 14.86 15.09 13.4 9.57

NHPC 6.13 7.2 6.75 8.99 7.39

Tata Power Co. 7.32 9.9 8.07 9.79 10.18

Table 10.2 - Showing table of return on capital employed of power industry

25

20

15 NTPC
Power Grid Corp.of India
Jindal Steel & Power
10 NHPC
Tata Power Co.

0
2009 2010 2011 2012 2013

Graph 10.2- Showing graph of return on capital employed of power industry

INFERENCE

50
 COMPANIES CORRELATION

NTPC -0.26097

Power Grid Corp.of India 0.357808

Jindal Steel & Power -0.98662

NHPC 0.643226

Tata Power Co. 0.56306

Table 10.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.8
0.6
0.4
0.2
0 CORRELATION
-0.2
-0.4
-0.6
-0.8
-1
-1.2

Table 10.3- Showing correlation between D/E ratio and ROCE

The debt component in all the companies exist, but debt component is highest in Power grid
corporation of India. Also Jindal steel & Power holds high debt component. The ROCE is
highest for Jindal Steel & Power . The correlation between 2 ratios shows positive correlation for
PGCI, NHPC and Tata power corp. but negative for NTPC and JSP .

11. FINANCIAL SERVICES INDUSTRY

51
COMPANIES 2009 2010 2011 2012 2013

HDFC 9.66 8.37 8.78 9.04 9.09

Power Fin. Corp. 4.19 4.81 5.47 5.31 0.58

Rural Electrification Corp 6.38 7.25 5.04 5.47 5.36

IDFC 3.91 3.88 3.27 3.06 2.97

Sriram Transport Fin. 8.68 4.8 4.05 2.95 3.27

Table 11.1- Showing D/E ratio of financial services industry.

12

10

8
HDFC
Power Fin. Corp.
6
Rural Electrification Corp
IDFC
Sriram Transport Fin.
4

0
2009 2010 2011 2012 2013

Graph 11.1- Showing D/E ratio of financial services industry

FINANCIAL SERVICES SECTOR

52
XCOMPANIES 2009 2010 2011 2012 2013

HDFC 11.96 10.52 10.18 11.58 11.97

Power Fin. Corp. 9.97 9.76 9.88 9.6 10.35

Rural Electrification 8.51 9.38 9.73 9.92 10.9

Corp
IDFC 10.24 8.55 8.26 11.48 13.32

Sriram Transport Fin. 12.92 15.93 16.36 18.37 16.07

Table 11.2 - Showing return on capital employed of financial services sector

20

18

16

14

12 HDFC
Power Fin. Corp.
10
Rural Electrification Corp
8 IDFC
Sriram Transport Fin.
6

0
2009 2010 2011 2012 2013

Graph 11.2- Showing return on capital employed of financial services sector

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INFERENCEXCOMPANIES CORREALTION
HDFC 0.785211
Power Fin. Corp. -0.91095
Rural Electrification Corp -0.56505
IDFC -0.6116
Sriram Transport Fin. -0.92773

Table 11.3- Showing correlation between D/E ratio and ROCE

CORREALTION
1

0.5

0 CORREALTION

-0.5

-1

-1.5

Table 11.3- Showing correlation between D/E ratio and ROCE

The financial services require huge liquidity because of which it has high debt component in it’s
capital structure . The debt component is highest in HDFC also it is evident from correlation that
high debt component is acting in favour of HDFC. But for other financial companies there is
negative correlation which means debt component is leading to fall in return on capital
employed.

12. OIL AND GAS INDUSTRY

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XCOMPANIES 2009 2010 2011 2012 2013

Reliance Industries 0.58 0.45 0.44 0.35 0.3

ONGC 0.2 1.18 0 0.039 0

IOC 1.04 0.94 1.004 1.23 1.37

Cairn India 0 0.042 0.042 0 0

Gail India 0.34 0.22 0.1 0.22 0.34

Table 12.1- Showing D/E ratio of oil and gas industry

1.6

1.4

1.2

1
Reliance Industries
ONGC
0.8
IOC
Cairn India
0.6 Gail India

0.4

0.2

0
2009 2010 2011 2012 2013

Graph 12.1- Showing D/E ratio of oil and gas industry

OIL AND GAS INDUSTRY

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XCOMPANIES 2009 2010 2011 2012 2013

Reliance 10.96 11.35 12.6 12.18 12.5

Industries
ONGC 34.29 34.54 28.38 28.56 24.6

IOC 14.06 14.64 15.83 10.32 13.08

Cairn India -0.03 -0.05 -0.07 0.03 20.02

Gail India 27.29 25.55 25.07 20.57 19.18

Table 12.2 - Showing return on capital employed of financial services sector

40

35

30

25
Reliance Industries
20 ONGC
IOC
15 Cairn India
Gail India
10

0
2009 2010 2011 2012 2013
-5

Graph 12.2- Showing return on capital employed of financial services sector

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INFERENCEXCOMPANIES CORRELATION

Reliance Industries -0.7844

ONGC 0.698502

IOC -0.65753

Cairn India -0.4113

Gail India -0.18338

Table 12.3- Showing correlation between D/E ratio and ROCE

CORRELATION
0.8

0.6

0.4

0.2
CORRELATION
0
Reliance Industries ONGC IOC Cairn India Gail India
-0.2

-0.4

-0.6

-0.8

-1

Table 12.3- Showing correlation between D/E ratio and ROCE

The debt component is varying from company to company, IOC has highest debt among all other
companies followed by Reliance industries and GAIL. But returns of ONGC are highest
followed by IOC and Reliance Industries but the correlation between both ratios shows that the
companies with low debt component have high returns

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 RELATION BETWEEN INTEREST RATE AND DEBT EQUITY RATIO

INTEREST RATE

Country name- India 2013 2012 2011 2010 2009

Interest 10.6 10.2 8.3 12.2 13.3
Table 13- Showing Interest rate in India from 2009-13

COMPANIES WITH HIGHEST DEBT TO EQUITY RATIOS

S.no Companies 2013 2012 2011 2010 2009

1 SBI 15.9 13.75 16.21 13.9 13.87
2 Axis Bank 12.48 9.87 11.34 11.14 8.95
3 HDFC 9.66 8.37 8.78 9.04 9.09
4 Rural Electrification Corp 6.38 7.25 5.04 5.47 5.36
5 Hindustan Construction Co. Ltd 3.93 2.62 2.28 1.66 2.35
Table 14- Showing companies with highest D/E ratio

The table above show interest rate prevailing in India for the past five years and the
debt to equity ratio of companies with highest debt to equity ratio. From the above
chart we can conclude that on an average when the interest rate is declining
companies are taking more debt , this is because debt is the cheapest source of
finance and saves tax.

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FI
N
DI
N
GS
59
CHAPTER 5- FINDINGS

 Companies change their capital structure according to their needs there is no

set formula for determining the capital structure of the company. This
decision is entirely based on companies’ ability to bear risk and amount of
control the owners want to have in the firm

 The debt component in the capital structure of most companies is falling

post great recession but the trend is not same for software and oil and gas
industry.

 Larger firms employ more debt capital in comparison with smaller firms and
firms with high profitability ratios tend to use less debt than firms that do not
generate high profits.

 The debt component in capital structure of banks and financial companies is

very high, followed by companies related to infrastructure development of
the country but it is comparatively low for software, telecom sector
companies. This shows capital intensive industries generally have high debt
to equity ratio.

 The capital structure of the companies’ of a particular sector is also

determined by business risk, from the above study we can see that sectors
like bank and financial services sector have more stable earnings than
FMCG , Software etc, because the debt repayment will be easier for
companies which have stable earnings .

 Companies in order to reduce tax, take debt as a financing option. Using

debt as a means of financing a project is attractive because the tax
deductibility of the debt payments protects some income from taxes. This
means that it shields part of your business income from taxes and lowers
your tax liability every year.

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  The companies capital structure is dependent on the sector they cater to,
sector where there is huge inflow and outflow requires more funds that is
why they have more debt component in there capital structure. Banks and
financial sector requires cash on daily basis so they need to maintain high
liquidity, but sectors like Pharma, FMCG, Retail does not require day to day
money transaction that’s why they have low debt to equity ratio

 The returns on the capital employed shows positive relation with the debt
component. From the above study it was concluded that companies which
have high debt component in there structure have high returns. The
correlation between D/E ratio and ROCE shows positive correlation for
companies with high debt component.

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CHAPTER 6- RECOMMENDATIONS

 The conscious decision of capital structure should be taken after careful analysis of
market condition, as we can see in the analysis done above that during recession after the
financial crisis companies were suffering from high debt component in their capital
structure which has increased their vulnerability and risk.

 The new entrants into the market should not keep high debt component in their capital
structure because it might be cheaper source of finance but it brings more risk with itself
and since the earnings of new entrants are not that regular, they face larger risk.

 Companies with more strong presence in the market should go for debt component in
their capital structure as it will help them to take tax benefits and it will be good for them
because they have stable earnings.

 The companies where revenue generation is constant and frequent should not require high
debt in their capital structure because they have stable source of earnings which they can
use as per their requirement, this way their obligation to outside parties will be less and
there will be less risk.

 Companies which want to keep the decision making power to themselves should go for
debt rather than equity because this will help them to reduce the partners and
stakeholders, who give more importance to their own profits.

 The debt to equity ratio of the company should strictly be based on sector it belongs to; it
is because growth of company is based on the growth of the sector.

 Also the economic condition of the country should also be considered because interest
rate on debt and interest of investors in investing is based on the growth rate of economy
and other macro-economic factors related to the country.

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CONCLUSION

63
CHAPTER 7- CONCLUSION

Capital structure decision of a company is the most important decision because the
future earnings, risk etc. of the company are dependent on this decision. Capital
structure is the mixture of a firm's debt and equity. Capital structure also matters
because of the different tax implications of debt vs. equity and the impact of
corporate taxes on a firm's profitability.

The results of this study were reassuring in some respects and surprising in others
when it came to making capital structure decisions, corporations appear to pay less
attention to finance theory and rely instead on practical, informal rules of thumb.
The debt component in the capital structure of infrastructure and finance sector is
very high, but it is comparatively low for telecom, FMCG, software related
industries The results of this study should be seen as a serious challenge to the
traditional capital structure literature. The companies of different sector show
different approach towards debt component, not like the regular approach and set
criterion of debt to equity ratio of 2:1. The companies have debt to equity ratio
according to their requirement of growth and revenues. Interest of shareholders and
management plays an important role in this decision because it affects the earning
capacity of the firm.

Most of the companies have which require more finance like real estate,
construction , banks etc have high debt to equity ratios and but companies with low
debt to equity ratios require less day to day financing like telecom, software, etc.

The other factors like –

 Tax exposure of the company- because if the company wants to reduce it’s
tax liability it will go for debt as interest payment reduces tax liability.

 Growth Rate- More stable and mature firms typically need less debt to
finance growth as its revenues are stable and proven. These firms also
generate cash flow, which can be used to finance projects when they arise.

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  Market conditions –It can have a significant impact on a company's capital-
structure condition. As we can see in above data companies struggled during
2009-10 due to bad economic condition, also interest rate on debt was high.

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