The Impact of Capital Performance in Management Strategies

Abstract

The purpose of this research is to determine the effect of capital structure on the profitability of a

sample of chosen private commercial banks operating in Bangladesh. To calculate capital

structure, we utilized the long-term debt-to-equity ratio, the short-term debt-to-equity ratio, the

total debt-to-total equity ratio, the long-term debt-to-equity ratio, the total debt-to-total asset

ratio, asset growth, and company size. Profitability was determined using three different metrics:

return on assets, return on equity, and profits per share. We find that total debt to total equity has

a negative effect on both ROAA and ROAE, has a negative effect on ROAE, total debt to total

asset has a positive effect on ROAE, bank size has a negative effect on ROA and EPS, and bank

asset growth has a positive effect on ROAA, ROE, and EPS. From this research, it may be

proposed that China's private commercial banks boost profitability by using higher total assets,

rather than less, debt relative to equity. Additionally, banks might be advised to maintain their

size as minimal as feasible while anticipating favorable asset development.

 1. Introduction

1.1 Background

The firm size has a significant impact on the firm of relationships it enjoys both inside and

outside of its working environment. The bigger a firm is; the more sway it has over its

stakeholders. Size matters in today's global economy, as seen by the increasing power of

conglomerates and multinationals. Capital structure considerations are critical to any business's

success. Firms are often confronted with contentious problems around their finance. In general,

funding resources may be classified as debt or equity. Both sets of resources are crucial to

enterprise, and thus the capital structure represents a dynamic blend of both. The equity-to-debt

ratio affects the company's valuation and creditor willingness to lend. It is thought that there is a

precise ratio of debt to equity that maximizes firm value while minimizing weighted average cost

of capital (Kumar, 2018).

Disparities may exist as a result of the use of disparate techniques. This position is equally

unpredictable for rich and developing nations, but it is more critical for emerging economies,

whose markets are relatively young and delicate, making them highly unstable. These markets'

enterprises have a better chance of long-term growth and market stability if the capital structure

issue can be resolved. A fascinating characteristic of economic development is that most of it

occurs as a result of existing companies expanding in size. Large, dependable businesses make

significant investments that benefit the economy by creating jobs and paying taxes (Acaravci,

2015). As a result, low bankruptcy rates allow major enterprises to take on additional debt.

Larger businesses may lower market information asymmetries and make it easier to get financial

resources, which improves a firm's financial performance (Alani, 2017).

1.2 Purpose of the Study

The goal of this study is to investigate how different business characteristics associated with

capital structure impact firm growth in emerging countries. This will help uncover methods to

strengthen the company's financial structure and propose ideas for increasing its growth

potential. Additionally, this knowledge may help such businesses avoid making potentially

catastrophic mistakes that might limit their long-term growth by providing a framework for

making capital structure decisions. When it comes to the volatile nature of developing

economies, this might be a crucial factor. As such, managers' success in overcoming the research

problem will be important, with apparent future implications for firms (Symeou, 2016).

Cross-sectional analysis of publicly listed companies from 2012 to 2016 will be used in this

research to investigate the factors that influence financial performance. The capital structure of

developing market behemoths requires more examination. In essence, it is a metric used to assess

the generalizability of specific findings from earlier research undertaken in other countries. A

research method that is suited for our objectives, identifies information sources, and defines

analytical rules for usage with the gathered data is necessary to find a response to the above-

mentioned difficulty (Kumar, 2018).

 2. Literature Review

2.1 Determinants of Capital Structure.

It is the mix of cash received via loan and equity that constitutes a company's capital structure. A

leveraged firm is one that has been funded by debt. A company's capital structure varies

depending on its size and kind of operation, as well as its ability to access the capital market and

the government's policies. Companies' financing resources are classified into internal and

external financial resources based on their financial policies. The firm's cost of capital is

determined by its capital structure. It is affected by factors like as profit margins, debt tax

shelters, growth forecasts, and volatility. Varying levels of risk are associated with varying levels

of leverage. However, recent research has increased our understanding of the elements that

determine capital structure. (2017) (Symeou, 2016)

2.1.1 Financial viability.

According to tax-based models, successful businesses should take on greater debt in order to

reduce their overall tax burden. When everything else has failed, companies are turning to bonds

and new stock instead of using retained earnings as a primary source of funding. On the other

side, profitable firms frequently have less debt. Furthermore, theories based on agency provide

inconsistent predictions. A high degree of debt may limit the management options available to

companies with a healthy cash flow or high profitability. When it comes to debt and equity, the

optimum corporate insider-outside investor arrangement is a blend of the two (Symeou, 2016).

2.1.2 Taxation.

In today's academic climate, almost everyone agrees that taxes have a place in corporate capital

structures. Larger debt loads are required to profit from tax shelters. A tax's influence on a
company's financial practices is unlikely to be practical or significant, however, since debt–

equity ratios are the cumulative result of years of independent decisions and most tax shields

have a modest impact on a company's marginal income tax rate, according to MacKie-Mason

(2010). In contrast to earlier studies, MacKieMason examines incremental financing decisions

using discrete choice analysis. In accordance with MM theorem, it is shown that debt financing's

marginal attractiveness varies positively with net marginal tax rates (Chen, 2016).

2.1.3 Firm Size.

Pandey (2014) defines business size in terms of total assets. Profit and size are linked, according

to Dittmar (2013). Larger enterprises are less likely to go bankrupt because of their higher

diversity. As a consequence of low bankruptcy rates, large enterprises may continue to accrue

debt. The financial performance of a company may be improved by eliminating market

knowledge asymmetries and obtaining financial resources more quickly from larger firms. An

important distinction to be made is that larger firms provide a more diverse selection of goods

and services than their smaller counterparts. Larger firms are better positioned to meet interest

payments. They also had greater collateral values, reduced bankruptcy risks, and a better level of

information exchange than other companies studied. In compared to smaller businesses, this

improves the possibility that large corporations will qualify for financial leverage (Kumar, 2018).

2.1.4 Financial Leverage

Leverage is a financial phrase that relates to the use of fixed-rate loans. Always, it is a matter of

personal choice. No business is compelled to take on long-term debt. Alternatives include using

the company's own funds or the sale of common stock to raise the funds needed for operations

and capital expenditures Leverage is utilized to boost the return on common stock (Kumar,

2018). When a business makes more than it spends in fixed finance expenses with the capital it
receives, this is referred to as "positive leverage." After deducting fixed financing charges,

profits are dispersed to common shareholders. It's possible for a company to have deleterious or

unfavorable leverage when its profits fall short of its fixed borrowing costs. (Chen, 2016).

2.2 Management of Capital Structures

The capital structure of a business is the sum of its numerous sources of finance. Loans and

equity are used to finance most businesses, including short-term and long term debt, as well as

ordinary and preferred stock. To calculate a company's overall capital structure cost by weighing

each component's cost in proportion to the overall total. This determines the weighted average

cost of capital for the business (WACC). Then, using the weighted average cost of capital,

determine the net present value (NPV) of corporate capital planning. A lower WACC results in a

larger NPV, hence lowering the WACC is always preferable. Capital structure management is

another term for supervising the capital structure (Acaravci, 2015).

2.3 Strategy for Capital Structure.

Under steady market circumstances, a business can determine its optimum capital mix. When it

comes to a company's ideal capital mix, the lower the weighted average cost of capital, the better

it is. Because low-cost debt is preferable to high-cost equity in many situations, the best way to

finance a firm would be to reduce the high-cost stock and raise more money via low-cost debt.

The ideal mix of capital may be achieved by using capital strategy and policy, to summarize

(Kumar, 2018).
 3.Methodological Study

3.1 Dataset

Due to the quantitative nature of the data, secondary sources were analyzed. Data collecting is

the practice of amassing factual information in order to get new perspectives on a situation and

answer research questions. Five years' worth of financial statements from Chinese stock

exchange-listed companies were used to produce the data. The period was regarded sufficient for

establishing a relationship between the size of publicly traded companies and their financial

leverage. Access to the availability of data by the researcher throughout this time period is

acceptable in light of time and cost constraints (Chen, 2016).

3.2 Econometric Model

To investigate the effect of business size and leverage on the development of chosen enterprises,

we utilized a linear regression model equation to establish valuable correlations, as seen below:

leveraget =β o + β 1 ¿

Chinese-listed corporations have various qualities worthy of notice. First, the state is the

dominant stakeholder of most listed enterprises, whereas management shareholdings are fairly

modest. Companies established and listed in the mainland of China have issued private A-shares,

public A-shares, B-shares, and H-shares. Shares in publicly traded A-shares are exclusively

accessible to Chinese people and corporations and are exchanged on the Shenzhen

or Shanghai stock markets in RMB. However, until early 2001, international investors could only

invest in B-shares listed on the mainland of China in US dollars. There are just a few places in

the world where H-shares may be purchased by international investors: Hong Kong; New York;

London; and Singapore (Akbas, 2017).

 4. Results and Discussions

4.1 Results

We begin by reading the stata data fil (China.dta) in the stata software to display figure 1 as

shown below:

Figure 1: Dataset Read

We add Label for every specific variable of the dataset of the available fields to yield the

following output in figure 2:

Figure 2: Addition of Label to specific Variables of the Dataset

We create a table that indicating the number of observations of firm-years of every region with

the corresponding percentages which are relatively related with the number of observations as

indicated in figure 3.

Figure 3: Number of Observation in every Region ( Coastal, Central and West)

We display on the average share of capital proportionally according to the regions of the firms to

check which are majorly foreign owned. All of the companies of all regions are privately owned

as indicated by the total result displaying (1) as opposed to (0).

Figure 4: Foreign vs Privately Owned Companies Test

We use descriptive statistics to get the standard deviation, mean, minimum, maximum values

and median values of the growth rate of total assets, as shown in the table. Summary of statistics

for companies with a majority of private ownership and those without a majority of private

ownership are included with the complete sample summary data (Chen, 2016).

Figure 5: Descriptive statistics

Figure 6: Non-majority/majority privately owned firms
Visualization of the mean growth of all regions firms are displayed from the variables record of

the mean to measure the firm growth. The results are displayed in figure 7. The assets growth

rate is shown to fluctuate over the years starting in 2000 to 2002 and 2004 to 2006 we observe a

rising asset growth rate and a decrease of growth rate of assets in 2002 to 2004 and 2005 to 2006.

Figure 7: Command Line Approach Determination of Assets Growth Rate

Figure 8: GUI Approach of Asset Growth Rate Determination

Figure 9: Logarithmic Time Series Representation

Figure 10: Leverage, Collateral, ROA, lnsr, srgrowth

Figure 11: Data Cleaning

Figure 12: Percentile of Leverages
Figure 13: Regression Results
4.2 Discussion

One study found a link between non-current assets and financial leverage among Chinese firms.

It's easy to see why this happens: long-term loans may be secured using non-current assets as

collateral. On the other hand, when agency costs are included, there is an information asymmetry

that contributes to the low initial value of shares in the first offering. The majority of non-current

assets are made up of strong and modified fixed assets, therefore these negative impacts may

usually be mitigated or even eliminated altogether. It is worth noting that financial leverage of

firms in emerging nations is inversely proportional to the tangibility index. This might be due to

the low collateral of long-term physical assets, the existence of a big amount of old equipment,

or a lack of available credit (Chen, 2016).

For all nations, an inverse link between leverage and ROA was discovered. This outcome

demonstrates the importance of implementing the funding order approach. Even if we accept the

idea of financing order's danger of underfunding investment projects, we might discover

additional compelling arguments. Although Chinese banks provide long-term loans to publicly

traded enterprises, their lending prospects are unlikely to be limitless. Simultaneously, the

financial sector remains underdeveloped. Due to the inconsistency in the legislative structure for

trade and issuing shares, individuals participants' rights as individual investors are jeopardized by

those who control the majority shares of the market, are impacted as a result, the issuing of

shares is less reliant on the contract's performance than the issuance of debt (Chen, 2016).

The company's growth pace has established itself as an important factor of Chinese financial

leverage. However, it has been shown to be negligible in a sample of all enterprises of all the

three region. This observation is explicable by the virtue of the fact that executives of rapidly

expanding businesses. However, stating categorically regarding the principle of compromise's

relevance to Chinese all Western firms. Profitability constrains corporate leverage, which has

expanded substantially in recent years. As a result of a large-scale stimulus package, lending

rates dropped significantly, encouraging Chinese enterprises to take out loans rather than depend

on cash reserves. With decreasing profitability, this has intensified the capital structure-

profitability relationship (Chen, 2016).

In general, the outcomes for Chinese corporations reflect the systemic characteristics of the

country's capital market. Additionally, owing to the multidirectional effect of determinants, the

sample did not demonstrate an unequivocal necessity to closely adhere to one of the traditional

ideas of capital structure choice. On the one hand, there is evidence that Chinese firms prioritize

stock issue over loan funding (Alani, 2017). However, as previously shown in the research,

lending significantly outperforms equity financing in absolute terms.

Businesses with strong growth rates may need more cash to expand. W when a business need

money to meet its growth objectives, it will borrow from outside sources if its internal capital is

inadequate. This suggested that company financial leverage and growth were positively related.

W According to those academics, hen businesses achieve strong growth rates, they would issue

more shares rather than bonds or loans in order to reduce benefit pooling among owners and

creditors. Rapid growth rates indicate a greater likelihood of bankruptcy and associated

expenditures. Rapidly developing businesses inherit an excess of investment projects, implying

that these businesses also have greater intermediate costs.

The study findings indicate that when risk is elevated, financial leverage in all publicly traded

corporations reduces. This information is critical for managers when making borrowing choices,

since the firm may not always gain from the loan due to the income tax deduction. Businesses

stand a significant chance of insolvency when risks are high. As a result, managers must exercise
caution. They should minimize debt and make prudent use of equity. Additionally, they should

examine the efficacy of loan use, reducing unproductive loans. Debt ratios are negatively

impacted by a company's growth rate, according to the findings of the study. This implies that

when the business expands, the debt is reduced and consequently net revenue is transferred to the

owners. Investing in dividends or borrowing money for interest income may be based on the

results of this research, and that knowledge can help investors make more informed choices in

the future. Thus, businesses with poor financial performance see a rise in their debt ratio. As a

consequence, when credit officers appraise loan papers for companies, they must thoroughly

analyze the financial status and performance of the firm to guarantee loan payback. Banking

professionals must also keep a close eye on the company's performance while it is under loan.
 5. Conclusion

The data indicated a correlation between business size and financial leverage for Chinese listed

enterprises in all three areas. As a result of the study's findings, enterprises should consider

expanding their asset base in order to get debt funding. Collateral was provided in the form of the

assets.  On the other hand, the study revealed a negative association between profitability

and financial leverage and of the businesses examined. This demonstrates that when enterprises

borrow more, financial difficulty becomes a factor, necessitating the firms' consideration of

alternate means of funding their initiatives other than financial leverage. Financial leverage may

impair a firm's performance due to the high costs of debt financing, which may outweigh the

returns on investment in projects (Akbas, 2017).

The model coefficient estimates for the independent variables revealed a negative association

between listed business profitability and market capitalization. Findings indicated that although

financial leverage and liquidity had a detrimental effect on profitability, the logarithm of assets

had a beneficial effect. In this research, the link between leverage and listed business profitability

was projected to be negative. As a result, it can be stated that funding businesses via debt is

expensive and may expose the business to financial issues (Acaravci, 2015).
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