PES UNIVERSITY

(Established under Karnataka Act No. 16 of 2013)

100-ft Ring Road, Bengaluru-560-085, Karnataka, India

Dissertation On

‘Analysing the influence of ITC Ltd.'s Capital Structure on Financial

Performance: A Comparative Study’

Submitted by

BHOOMIKA H.V {PES3UG21BC704}

Jan-May 2024

Under the guidance of

External Guide Internal Guide

CA. RAGHAVENDRA. D NAVYASHREE N.S
Proprietor & Founder Assistant Professor
Department of Commerce
PES University
Bengaluru-560 085
 DECLARATION

I BHOOMIKA H.V, hereby declare that the dissertation entitled, ‘Analysing the influence

of ITC Ltd.'s Capital Structure on Financial Performance: A Comparative Study’ is an

original work done by us under the guidance of Prof. NAVYASHREE N.S, Designation

Affiliation and is being submitted in partial fulfilment of the requirements for completion of

6th Semester course work in the Program of the Study B.com in PES University.

PLACE: Bangalore
DATE:

Name & Signature of the Candidate

BHOOMIKA H.V
 ACKNOWLEDGEMENT

It gives a huge delight to offer the thanks to articulation of gratitude to individuals who have
been engaged with my research in more than one way during the term of this exposition. I’m
earnestly and generously appreciative to my supervisor whose consolation, direction and
backing from the underlying to the last level empowered me to foster a comprehension of the
subject. I’m certain it would have not been imaginable without his assistance.

I would like to thank the Vice Chancellor, PES University Dr. SURYAPRAKASH J, Dean
Faculty of Commerce & Management Studies, Dr. SHAILASHREE HARIDAS, Principal
Department of B. com evening college Prof. RAJSHEKHAR C GOUDAR. Also, I would
like to thank my internal guide Assistant Prof. NAVYASHREE.N. S for guiding me and
throwing light on the areas to focus on throughout my project journey. Lastly, I would like to
thank my parents and friends for supporting and walking with me through my Project work
journey.

I extend my heartfelt thank to CA. RAGHAVENDRA.D for their help in getting the valuable
information. This research work undertaken by me would not have been completed but for the
tremendous help and cooperation extended to me from all quarters. It is my earnest duty to
acknowledge their help.
 EXECUTIVE SUMMARY

This is an attempt to know how the theories can be applied to practical situation. As a student
of B. Com 6th semester, it is a part of study for everyone to undergo the project work at a good
organization. So, for this purpose I got the opportunity to do my project work at PES University
on the topic “Analysing the influence of ITC Ltd.'s Capital Structure on Financial
Performance: A Comparative Study”

In the first part of the project report, theoretical framework of capital structure and its theories
and general information about capital structures importance and factors has been collected.
Information was gathered through secondary sources. The second part contains the specialized
subject study. This report is an analysis of the impact of ITC LTD.’s capital structure on its
financial performance.

This report will provide an overview of the study on ITC Ltd.'s capital structure and its impact
on financial performance, highlighting key findings, strategic implications, and
recommendations for future financial management. This comparative study analyses the
influence of ITC Ltd.'s capital structure on its financial performance in comparison of its last
three years financial information provided in its annual report gathered from ITC ltd.’s official
website. The research methodology involved examining key financial metrics and ratios to
assess the impact of ITC's capital structure, including the mix of debt and equity, on its
profitability and shareholder value.
 INDEX
Chapter Contents Page No.
No.
Abstract 1
1. Introduction 2-9
2. Literature Review 10-20

3. Company Profile 21-42

4. Research Design 43-48

➢ Statement of the problem.
➢ Nature and need of the study.
➢ Hypothesis
➢ Scope of the study.
➢ Research Gap.
➢ Objectives of the study.
➢ Limitations of the study.
➢ Research methodology.
• Data collection sources.
• Tools for data collection.
• Data analysis plan.
5. Data Analysis and Interpretation 49-81

6. Findings, Suggestion and Conclusion 82-85

Appendix 86-91

Reference 92-94
List of Tables
Particulars Table No.
Balance sheet for 3 years 5.1
Profit And Loss account for 3years 5.2
Net income Approach 5.3
Net Operating Approach 5.4
Traditional method approach 5.5
EBIT-EPS Analysis 5.6
Financial Leverage 5.7
Operating Leverage 5.8
Combined Leverage 5.9

List of Graphs
Particulars Graph No.
Net income Approach 5.1
Net operating Income approach 5.2
Traditional method approach 5.3
EBIT-EPS analysis 5.4
 ABSTRACT

The project titled “Analysing the influence of ITC Ltd.'s Capital Structure on Financial
Performance: A Comparative Study” deals with the capital structure of a company which plays a
pivotal role in shaping its financial performance and overall strategic positioning. This study
aims to analyse the influence of ITC Ltd.'s capital structure on its financial performance
through a comparative lens. By examining various financial metrics such as profitability,
liquidity, solvency, and efficiency, this research seeks to elucidate the relationship between ITC
Ltd.'s capital structure decisions and its performance in comparison to industry peers or
benchmarks. Through a comprehensive analysis, this study aims to provide insights into how
ITC Ltd.'s capital structure choices impact its financial health and competitive advantage in the
market. Such findings can be invaluable for stakeholders, investors, and managers in
understanding the dynamics of capital structure management and its implications for
sustainable growth and value creation.

The tools used for the data analysis are Net income theory, Net operating income theory ,
Traditional theory and Financial leverage to analyse the risk by using last 3 years balance sheet
and profit and loss account of ITC Ltd.’s which is extracted from its official website .

1
 CHAPTER - 1

INTRODUCTION

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 1. Background of the topic

The topic of analysing the influence of ITC Ltd.'s capital structure on financial performance
involves a comprehensive examination of how the composition of the company's financial
resources affects its overall profitability, stability, and growth. ITC Ltd., a prominent
conglomerate in India, operates across various sectors including FMCG (Fast Moving
Consumer Goods), hotels, agribusiness, paperboards, and packaging. The capital structure of
a company refers to the mix of debt and equity used to finance its operations and investments.
Understanding how ITC Ltd.'s capital structure impacts its financial performance entails
studying the proportion of debt and equity in its capital stack, the cost of capital, leverage
ratios, and the implications for profitability, risk, and shareholder value. Through comparative
analysis, this study seeks to shed light on the relationship between ITC Ltd.'s capital structure
decisions and its financial outcomes relative to industry peers or historical performance
benchmarks. This research is critical for investors, financial analysts, and company
management to make informed decisions regarding financing strategies, risk management,
and optimizing shareholder value in the dynamic business environment.
Here's a brief outline of the background of the topic:
• Importance of Capital Structure:
- The capital structure is vital because it determines the cost of capital, risk level, and
potential returns for the shareholders.
- It affects the company's ability to raise funds, invest in growth opportunities, and manage
financial risks effectively.
• ITC Ltd.'s Business Profile:
- Provide an overview of ITC Ltd.'s business operations, including its diverse portfolio of
products and services, market presence, and revenue sources.
- Highlight key financial metrics such as revenue, profit margins, return on equity, and debt
levels to give context to the analysis.
• Analysing Capital Structure:
- Examine ITC Ltd.'s capital structure over a period of time, including the proportion of
equity, debt, and hybrid securities in its financing mix.
- Evaluate the company's leverage ratios (such as debt-to-equity ratio, interest coverage
ratio) to understand its financial risk and solvency position.
• Financial Performance Metrics:

3
 - Assess ITC Ltd.'s financial performance using relevant metrics like profitability (e.g.,
net profit margin, return on assets), liquidity (e.g., current ratio, quick ratio), and efficiency
(e.g., asset turnover).
- Compare these metrics across different periods and with industry benchmarks to gauge the
company's relative performance.
• Impact of Capital Structure on Financial Performance:
- Investigate how changes in ITC Ltd.'s capital structure have influenced its financial
performance indicators.
- Identify any correlations between capital structure decisions (such as debt issuance or
share buybacks) and changes in profitability, risk, and shareholder value.
• Comparative Study:
- Conduct a comparative analysis with peer companies in the same industry to benchmark
ITC Ltd.'s capital structure and financial performance.
- Identify best practices and areas for improvement based on the performance of peer
companies.
• Conclusion and Recommendations:
- Summarize the findings of the analysis and draw conclusions regarding the impact of ITC
Ltd.'s capital structure on its financial performance.
- Provide recommendations for optimizing the company's capital structure to enhance its
financial health, competitiveness, and shareholder value.

Overall, this study aims to provide insights into how ITC Ltd.'s capital structure choices
influence its financial performance and offer recommendations for strategic decision-making
in capital management.

2. Need/importance of the topic

Firstly, ITC Ltd. is one of India's leading conglomerates, operating across various sectors such
as FMCG (Fast Moving Consumer Goods), hotels, agribusiness, and paperboards, among
others. As a prominent player in the Indian economy, understanding the dynamics of its capital
structure and its impact on financial performance provides insights not only for investors but
also for policymakers, researchers, and industry analysts.
Secondly, the capital structure of a company significantly affects its cost of capital, profitability,
and risk profile. By examining how ITC Ltd. structures its financing through debt and equity,

4
 researchers can gain valuable insights into its risk management strategies, leverage levels,
and overall financial health. Understanding the optimal capital structure for ITC Ltd. can help
stakeholders make informed decisions regarding investment, financing, and strategic planning.

Moreover, in the context of the rapidly changing business environment, characterized by

fluctuations in interest rates, regulatory changes, and market dynamics, the study of ITC Ltd.'s
capital structure becomes even more relevant. Analysing how the company adjusts its capital
structure in response to external factors can provide valuable lessons for other firms facing
similar challenges. Additionally, given the growing emphasis on corporate governance and
sustainability, understanding the relationship between ITC Ltd.'s capital structure and financial
performance can shed light on its long-term viability and resilience. It allows stakeholders to
assess whether the company's financing decisions align with its strategic objectives, values,
and stakeholders' interests.

In conclusion, the analysis of ITC Ltd.'s capital structure and its impact on financial performance is
essential for stakeholders seeking to understand the company's financial dynamics, assess its risk-return
profile, and make informed decisions in a dynamic business environment. As such, this comparative
study holds significant implications for investors, policymakers, researchers, and industry practitioners
alike.

3. Theoretical implication of the topic.

The study of ITC Ltd.'s capital structure and its impact on financial performance carries
significant theoretical implications. Firstly, it allows for an exploration of the optimal mix of
debt and equity financing in a large conglomerate like ITC, shedding light on theories such as
the trade-off theory and the pecking order theory. Secondly, it provides insights into how
financial decisions regarding capital structure can influence firm value, profitability, and risk.
Understanding these implications contributes to the broader body of corporate finance theory
and provides practical guidance for firms in making strategic financial decisions to enhance
their performance and shareholder value.
The capital structure of a firm plays a pivotal role in determining its financial performance and
overall success in the market. It encompasses the mix of different sources of funding, including
equity, debt, and hybrid securities, that a company utilizes to finance its operations and
investments. This study delves into the theoretical implications of ITC Ltd.'s capital structure
on its financial performance through a comparative analysis with industry peers. By examining
various theoretical frameworks and empirical evidence, this research aims to provide valuable

5
insights into the relationship between capital structure choices and financial outcomes.

Theoretical Foundations of Capital Structure

Modern financial theory offers several perspectives on the optimal capital structure of a firm.
One prominent framework is the Modigliani-Miller (MM) theorem, which posits that, under
certain assumptions, the value of a firm is independent of its capital structure. MM's proposition
it suggests that in a world without taxes, bankruptcy costs, or information asymmetries, the
market value of a firm is determined solely by its cash flows and the risk of its assets, rather
than by how these cash flows are financed. However, in the real world, various market
imperfections and frictions exist, leading to departures from the MM theorem.

The trade-off theory of capital structure recognizes the presence of corporate taxes and
bankruptcy costs, which influence firms' decisions regarding debt and equity financing.
According to this theory, firms aim to strike a balance between the tax advantages of debt and
the costs associated with financial distress. As a result, there exists an optimal capital structure
where the marginal benefits of debt equal the marginal costs.

Pecking order theory provides an alternative perspective, suggesting that firms have a
preference for internal financing over external financing, followed by debt and finally equity
issuance. This theory implies that firms prefer to avoid issuing equity due to adverse signalling
effects and information asymmetries. Therefore, their capital structure is primarily determined
by the availability and cost of internal funds.

Empirical Evidence on Capital Structure and Financial Performance

Numerous empirical studies have investigated the relationship between capital structure and
financial performance across different industries and regions. While findings are mixed, some
consistent patterns emerge:
1. Debt levels: Studies have found that higher levels of debt are associated with increased
financial leverage and risk, as well as higher expected returns for shareholders. However,
excessive debt can also lead to financial distress and reduced flexibility, particularly during
economic downturns.

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2. Cost of capital: The cost of capital is influenced by the mix of debt and equity in a firm's
capital structure. Debt typically offers tax shields due to interest deductibility, but it also entails
fixed interest payments that can increase financial risk. Equity, on the other hand, does not
involve obligatory payments but dilutes ownership and may signal undervaluation.

3. Firm value: The relationship between capital structure and firm value is complex and
context-dependent. While some studies support the trade-off theory by finding an optimal debt
level that maximizes firm value, others suggest that firms deviate from optimal leverage due to
factors such as growth opportunities, industry dynamics, and managerial preferences.

ITC Ltd., a leading Indian conglomerate operating in sectors such as FMCG, hospitality, and
agribusiness, provides an interesting case study for examining the impact of capital structure
on financial performance. By comparing ITC's capital structure and financial metrics with
those of its industry peers, such as Hindustan Unilever, Nestle India, and Britannia Industries,
we can gain insights into the relative effectiveness of different financing strategies.

1. Debt ratio: Analysing the debt-to-equity ratio and debt levels relative to industry norms can
reveal whether ITC has adopted a more conservative or aggressive capital structure. A higher
debt ratio may indicate greater leverage and risk, while a lower ratio suggests a more
conservative approach.

2. Financial performance: Key financial indicators such as profitability, liquidity, and solvency
ratios can shed light on how ITC's capital structure choices have influenced its overall financial
health and performance. Comparing these metrics with industry averages can highlight areas
of strength or weakness relative to peers.

3. Market response: Stock market reactions to announcements related to capital structure

changes, such as debt issuances, share buybacks, or dividend policies, can provide insights into
investor perceptions of ITC's financing decisions and their expected impact on future cash
flows and firm value.

7
Theoretical implications of the influence of ITC Ltd.'s capital structure on financial
performance extend beyond the firm itself to broader implications for corporate finance theory
and practice. By examining the interplay between capital structure choices, market conditions,
and firm-specific factors, researchers and practitioners can refine existing theories and develop
more nuanced frameworks for understanding the complexities of corporate financing decisions.

In conclusion, the influence of ITC Ltd.'s capital structure on financial performance offers
valuable insights into the strategic importance of capital structure decisions in achieving
sustainable growth and value creation. Through a comprehensive comparative analysis, this
study contributes to the ongoing discourse on optimal capital structure theory and its practical
implications for corporate finance management.

4. Recent trends related to the topic

Recent trends suggest that ITC Ltd. has been diligently focusing on optimizing its capital
structure to enhance financial performance. The company has been leveraging a mix of debt
and equity to fund its operations and growth initiatives. Through strategic debt restructuring
and equity infusions, ITC aims to maintain an optimal capital structure that minimizes
financing costs while maximizing returns to shareholders. Additionally, there is a growing
emphasis on sustainable financing practices, with ITC exploring avenues such as green bonds
and ESG-linked financing to align its capital structure with environment
Recent trends related to the influence of ITC Ltd.'s capital structure on financial performance
might include:
• Debt restructuring: ITC Ltd. could have been actively restructuring its debt, either by
reducing its overall debt burden or by optimizing its debt mix to lower its cost of capital.
This could have implications for its financial performance, such as improved
profitability and better liquidity.
• Equity issuance: If ITC Ltd. has recently issued equity, it may have altered its capital
structure, potentially impacting its financial performance. Equity issuance could
provide additional funds for growth initiatives or debt reduction, but it might dilute
existing shareholders' ownership and earnings per share.
• Interest rate environment: Changes in interest rates could influence ITC Ltd.'s
borrowing costs and debt management strategies. For instance, if interest rates have

8
 risen, the company might have shifted towards more conservative financing structures
to mitigate interest rate risk.
• Credit rating changes: Upgrades or downgrades in ITC Ltd.'s credit rating could affect
its ability to access debt markets and the cost of borrowing. Improvements in credit
ratings might lead to lower borrowing costs, whereas downgrades could increase
financing expenses and impact financial performance.
• Market conditions: General market conditions, including investor sentiment and
industry trends, could influence ITC Ltd.'s capital structure decisions. For instance,
during periods of economic uncertainty, the company might prioritize debt reduction to
enhance financial flexibility and resilience.
• Investor preferences: Changes in investor preferences for certain types of securities
(e.g., bonds versus stocks) could influence ITC Ltd.'s capital structure choices. The
company might adjust its financing mix to align with investor demand, potentially
impacting its financial performance metrics.

• Regulatory environment: Regulatory changes related to debt markets, taxation, or

accounting standards could influence ITC Ltd.'s capital structure decisions. Compliance
with regulatory requirements might lead the company to alter its financing strategies,
affecting its financial performance in the process.

Analysing these recent trends in ITC Ltd.'s capital structure and their impact on financial
performance would provide valuable insights for stakeholders, including investors, creditors,
and management.

9
 CHAPTER – 2

LITERATURE REVIEw

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 1. “Capital structure and leverage of Tata Motors Ltd: Its role and future prospectus”.

Sekar, Gowri and Ramya et al. (2014)

This study examines the influence of capital structure on the performance of the company. It
is measured using EBIT-EPS analysis. The value of the company is increased due to investment
decision and balanced capital structure. Analysis is done with an objective to study the capital
structure, its determinants, and nexus with the value of the firm and moreover the capital
structure decision on the performance of the Tata Motors Limited. Net worth of the company
started increasing throughout the study period. Since it has an optimal capital structure it will
have positive effect in its future business.

2. “Effect of Financial Leverage on performance of the firms: Empirical evidence from

Pakistan”.

Zahoor Hussain Javed, Huma et al. (2015)

The data has been obtained from various publication of SB of Pakistan. The study highlighted
that to find the impact of leverage on the efficiency of textile sector. The panel data
methodology is used for estimation. It has been suggested that the total debt and long term debt
are negatively related to return on asset and return on equity. The pecking order theory suggests
that firms get minimum amount of borrow and earn maximum. The firm tend to borrow less
because firms maintain the sufficient amount of funds internally.

3. “Effect of change in capital structure on Profitability of FMCG Sector Companies”.

Vinod Bhatnagar (2016)

Data was calculated from moneycontrol.com, radiffmoney.com and also applied linear
regression to find out the effect of change in capital structure on profitability. The main
objective was to find out the impact of capital structure on profitability. The study was
empirical in nature. This study is a useful contribution to understand the capital structure and
can be used by different researches for further research. It has been done by taking only sample
of FMCG companies it is suggest to take other sector. Analysis is done by considering Net

11
 profit only one can also use profit before tax and profit before depreciation & tax. Hence
he concluded that there was significant relationship between capital structure and profitability.

4. “Impact of Leverage & Coverage Ratios On ITC Ltd”.

Ayan Chakraborty (2017)

The financial statements of ITC have been collected over a period of six years (2011-2016).
The explanatory research design is adopted in this study which employs secondary data. The
research evidence of the study indicates that the degree of operating leverage is statistically
significant positive correlation with the EPS. The financial performance of ITC is satisfactory.
The analysis has shown that ITC has financed its activities mainly from its reserve & surplus
and the amount of debt has fallen over the years it is suggested that must increase its debt
funding to take the advantage of tax shield. The objective of the study is to know the overall
operating efficiency and performance of the firm through financial analysis and also to measure
the growth of the company. The study concludes that the firm has to use a correct mixture of
both the leverages to take the fullest possible advantage of growing business opportunity.

5. Capital structure, equity ownership and firm performance

Dimitris Margaritis, Maria psillaki (2010)

This paper investigates the relationship between capital structure, ownership structure and firm
performance using a sample of French manufacturing firms. We employ non-parametric data
envelopment analysis (DEA) methods to empirically construct the industry’s ‘best practice’
frontier and measure firm efficiency as the distance from that frontier. Using these performance
measures, we examine if more efficient firms choose more or less debt in their capital structure.
We summarize the contrasting effects of efficiency on capital structure in terms of two
competing hypotheses: the efficiency-risk and franchise value hypotheses. Using quantile
regressions, we test the effect of efficiency on leverage and thus the empirical validity of the
two competing hypotheses across different capital structure choices. Throughout this analysis
this consider the role of ownership structure and type on capital structure and firm performance.

12
 6. Interrelationship between capital structure and financial performance, firm size and
growth: comparison of industrial sector in KSE

Benish Javed, Shehla Akhtar (2012)

The purpose of the Study is to explore relationship between the capital structure and financial
performance, evidence from 21 industries in Karachi stock exchange in Pakistan. The study
has been analysed capital structure and its impact on financial performance during year 2004
to 2008 (5 years) financial years of 21 industries in KSE. The study will empirically investigate
the relationship between the capital structure and financial performance, by using correlation
and regression test on financial data which is collected from analysis reports of KSE, Balance
sheet analysis and financial statements of 21 sectors. The results have several Significant
implications.

7. Determinants of capital structure and its impact on the debt maturity of the textile
industry of Bangladesh

GM Ullah, Mohammad Uddin, Mohammad Abdullah, M Nazmul Islam (2017)

Capital Structure is one of the most important and talked about issues in the field of finance.
The fundamental components of capital structure are debt and equity of a company. Though
different researchers provide different comment on the theory of capital structure, majority of
theories and findings seem to contradict with each other in terms of developed and developing
economy. Practitioners as well as researchers all over the world have identified that capital
structure has impact on the firm performance and debt maturity. Research in capital structure
is not adequate and require intense empirical work in Bangladesh. With that idea, objective of
this study is to investigate the significance of determining factors of capital structure on debt
maturity of the textile industry of Bangladesh.

8. Effect of determinants on financial leverage in Indian steel industry: A study on capital

structure

Sarada Dakua (2019)

The Government of India (GOI) took some major political decisions allowing foreign direct
investment to reform the industries in the mid‐90s. The sectors such as construction, housing,

13
 transportation, and power generation then started to grow exponentially, resulting in
significant increased demand for steel domestically apart from exports (Dutta & Mukherjee,
2010). Since the journey has begun, it has faced a lot of hurdles and is now the second largest
producer of crude steel (Ministry of Steel, Govt. of India, 2017). However, the country has the
potential to be the top exporter of steel if appropriate capital structure is adopted.

9. An analysis of capital structure of ITC limited

B Navaneetha R Nithya Lakshmi, K Manjushree (2018)

The analysis of capital structure highlighted that the company’s operating performance is in
efficient manner and the sales during the study period shows increasing trend and it is expected
sales can increase in forthcoming years. The study reveals that the financial performance of
ITC Ltd is in satisfactory position. The study concluded that ITC Ltd.’s capital structure shows
that maximum finance is raised through its owner’s capital and the contribution of debt is
reduced over the years. It is suggested that it can increase its debt finance in capital structure
to take the advantage of financial leverage.

10. Impact of Working Capital Management on Firm Profitability: An Empirical Study of

ITC Ltd.

Dr. S.K. Khatik, Mr. Titto Varghese (2015)

The efficient management of working capital plays a crucial role in the successful functioning
of a firm. Firm should always keep monitoring the liquidity position as it projects the
company’s credit image. Lack of liquidity can create a bad image among the parties interested
in the firms functioning. Also, firm must ensure that there should be a proper balance between
current assets and current liabilities, as it can affect the profitability of the firm. For making the
analysis of Liquidity-profitability relationship of ITC, ratio analysis techniques of Financial
Management have been used.

11. The Impact of Capital Structure and Financial Performance on Stock Returns in India:
A Review

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 Rohit Bansal and Suresh Kumar Kashyap (2021)

Capital structure philosophers such as pecking order theory, market signal theory, and agency
theory have checked the out-of-date trade-off theory because debt capital is presented as
behavioral characteristics in the capital structure because of less power and knowledge needed
for the function of the pecking order, a way to improve directors' professional ambition.
Theorists have argued that capital structure adversely affects the efficiency of an organization
and therefore; managers cautiously use debt capital to foot cost activity. The findings suggested
that, instead of rising the percentage of equity capital in their capital structure mix, companies
should reduce the use of debt capital.

12. Impact of capital structure on financial performance: a study of selected automobiles

companies of India

Sarkar Rahul, Choudhary Ram Prahlad (2018)

There exists a debate as to whether capital structure variables and financial performance are
associated or not. This study aims to understand the movement of shareholders return in the
context of capital structure composition. With fifteen years data and sixteen automobile
companies, both pooled regression and panel regression (Fixed effects and Random effects
models) have been used and the best fitted model have been selected through Hausman test and
Wald Test.

13. Determinants of capital structure: an empirical evaluation from India

Saurabh Chandha, Anil K Sharma (2015)

It was empirically found that size, age, asset tangibility, growth, profitability, non-debt tax
shield, business risk, uniqueness and ownership structure are significantly correlated with the
firm financial leverage or key determinants of capital structure in Indian manufacturing sector.
Also, other variables like dividend payout, liquidity, interest coverage ratio, cash flow coverage
ratio (CFCR), India inflation and GDP growth rate are empirically found to be insignificant to
determine the capital structure of Indian manufacturing sector.

15
 14. The impact of capital structure on financial performance of different sectors in India

Chaudhary Devi Lal University, Sirsa (2015)

This study examines the influence of capital structure on the performance of the company. It is
measured using EBIT-EPS analysis. The value of the company is increased due to investment
decision and balanced capital structure. Analysis is done with an objective to study the capital
structure, its determinants, and nexus with the value of the firm and moreover the capital
structure decision on the performance of the Tata Motors Limited. Net worth of the company
started increasing throughout the study period. Since it has an optimal capital structure it will
have positive effect in its future business.

15. Factors determining capital structure and corporate performance in India: Studying the
business cycle effects

Arindam Bandyopadhyay, Nandita Malini Barua (2016)

They have empirically tested many corporate finance theorems relevant to the determinants of
the capital structure of firms. We have also examined the association between capital structure
choice and performance of firms. In doing so, we have investigated the difference in firm
behavior across different macroeconomic scenarios. Our results show that capital structure
choice as well as corporate performance varies according to industry affiliation, group
ownership and firm specific.

16. An Empirical Study on Effect of Capital Structure on Financial Performance of Paper

Manufacturing Companies in India: Penal Data Analysis.

Butalal Ajmera (2019)

the researcher has attempted to study the effect of capital structure on the financial performance
of selected paper manufacturing firms in India. Secondary data have been used. The study
period was of five years from 20014-2015 to 2018-2019. Accounting ratio and statistical tools
like descriptive statistics, correlation matrix, and penal data analysis have been used. The result
of the descriptive statistics shows that ROA, ROCE, EPS and valuation indicate good financial
performance. While the debt-equity ratio shows debt is more than equity in the capital structure.

16
 17. The Impact of Capital Structure on Profitability with Special Reference to it Industry
in India

Ramachandran Azhagaiah Candasamy Gavoury (2011)

Firms can use either debt or equity capital to finance their assets. The best choice is a mix
of debt and equity. The present study mainly analyses how far the capital structure (cs)
affects the Profitability (p) of corporate firms in India. The study tries to establish the
hypothesized relationship as to how far the cs affects the business revenue of firms and
what the interrelationship is between cs and Profitability .

18. An Empirical Analysis on Capital Structure, Ownership Structure and Firm

Performance: Evidence from India

Krishna Dayal Pandey , Dr. Tarak Nath Sahu (2017)

The study has attempted to empirically examine the effect of capital structure and ownership
structure on the accounting performance of Indian manufacturing firms listed and traded on
Bombay Stock Exchange (BSE) of India during the period of 2009-16. The capital structure is
represented by the debt to equity ratio whereas the various forms of ownership structure are
represented by percentage of domestic promoters’ ownership, percentage of foreign promoters’
ownership and percentage of institutional ownership. Besides, return on assets and return on
net worth are introduced to measure firms’ accounting performance.

19. Effect of determinants on financial leverage in Indian steel industry: A study on capital
structure

Sarada Dakua (2011)

The Government of India (GOI) took some major political decisions allowing foreign direct
investment to reform the industries in the mid‐90s. The sectors such as construction, housing,
transportation, and power generation then started to grow exponentially, resulting in significant
increased demand for steel domestically apart from exports (Dutta & Mukherjee, 2010). Since
the journey has begun, it has faced a lot of hurdles and is now the second largest producer of

17
 crude steel (Ministry of Steel, Govt. of India, 2017). However, the country has the potential
to be the top exporter of steel if appropriate capital structure is adopted.

20. Capital structure, liquidity, and firm size impact on profitability of mining industry in
Indonesia

Chandra Setiawan, Nemisia Freitas de Jesus Pereira

Financial ratios used in this study are Debt-to-equity Ratio, Short-term Debt to Asset ratio,
Long-term Debt to Asset ratio, Current Ratio, Firm Size, and Return on Equity. DER, STDA,
and LTDA are used as the measurement for capital structure, CR as the proxy of liquidity, and
FIRMSIZE. Meanwhile, the proxy of profitability is Return on Equity (ROE) which is the
dependent variable in this study. The findings of the study reveal that DER, LTDA, and Firm
Size all have a significant impact on ROE. On the other hands, STDA and CR do not have a
significant effect toward ROE. The most significant independent variable toward ROE is DER.

21. The effect of capital structure on profitability: an empirical analysis of listed firms in
Ghana

Joshua Abor (2005)

The capital structure decision is crucial for any business organization. The decision is important
because of the need to maximize returns to various organizational constituencies, and also
because of the impact such a decision has on a firm’s ability to deal with its competitive
environment. The capital structure of a firm is actually a mix of different securities. In general,
a firm can choose among many alternative capital structures. It can issue a large amount of debt
or very little debt. It can arrange lease financing, use warrants, issue convertible bonds, sign
forward contracts or trade bond swaps.

22. Determinants of capital structure of Chinese-listed companies

Jean J Chen (2004)

This paper develops a preliminary study to explore the determinants of capital structure of
Chinese-listed companies using firm-level panel data. The findings reflect the transitional

18
 nature of the Chinese corporate environment. They suggest that some of the insights from
modern finance theory of capital structure are portable to China in that certain firm-specific
factors that are relevant for explaining capital structure in developed economies are also
relevant in China. However, neither the trade-off model nor the Pecking order hypothesis
derived from the Western settings provides convincing explanations for the capital choices of
the Chinese firms. The capital choice decision of Chinese firms seems to follow a “new Pecking
order”—retained profit, equity, and long-term debt

23. Institutional ownership, capital structure, and firm performance

Rajeswararao Chaganti, Fariborz Damanpour (1991)

In most studies of ownership and firm performance, researchers have assumed different forms
of ownership do not interact in their effect on firm strategy or performance. Focusing on the
role of institutional owners, this study poses two related questions: (1) What are the
relationships between outside institutional shareholdings, on the one hand, and a firm's capital
structure and performance, on the other? and; (2) Does the size of stockholdings by corporate
executives, family owners, and insider‐institutions modify those relationships.

24. Interrelationship between capital structure and financial performance, firm size and
growth: comparison of industrial sector in KSE

Benish Javed, Shehla Akhtar (2012)

The purpose of the Study is to explore relationship between the capital structure and financial
performance, evidence from 21 industries in Karachi stock exchange in Pakistan. The study
has been analysed capital structure and its impact on financial performance during year 2004
to 2008.(5 years) financial years of 21 industries in KSE. The study will empirically investigate
the relationship between the capital structure and financial performance, by using correlation
and regression test on financial data which is collected from analysis reports of KSE, Balance
sheet analysis and financial statements of 21 sectors. The results have several Significant
implications.

19
 25. The Effect of Internal Factors on Capital Structure and Its Impact on Firm Value:
Empirical Evidence from the Food and Beverages Industry Listed on Indonesia Stock
Exchange

M Noor Salim, Rina Susilowati (2019)

This research aims to analyse the effects of profitability (ROA), liquidity (CR), assets growth,
and firm size towards capital structure (DER) and the impact on firm value (PBV). This
research uses secondary data from yearly financial statement of food and beverages companies
listed in Indonesian Stock Exchange for period 2013-2017. The research design uses
descriptive quantitative research and causality. Sampling method uses purposive sampling
method, with some predetermined criteria, the number of samples is 17 manufacturing
companies.

20
 CHAPTER – 3
COMPANY PROFILE

21
COMPANY PROFILE OF VRCAS (INTERNSHIP)

firm of Chartered Accountants, Financial

Consultants, Corporate Strategists, Audit and Tax
experts. We have been offering consultation to
varied businesses and helping organizations to
navigate the complexities. Established in the year
2015, we offer efficient solutions to businesses with our extensive range of knowhow on
corporate strategies, audit, assurance, taxation, management consultancy and related services.
With head office in Bangalore and a branch at Raichur, Partners and Advisors have more than
70 years of combined experience and a strong team of 25 consultants offering superior levels
of work ethics, inclusiveness and competence in all our transactions.

Our Vision
We build enduring & long-lasting business
partnerships through innovative business
solutions & supportive execution.

Our Values
Integrity, Trust, and professionalism guide
us like North Star, reflecting in our work
ethics, thereby enhancing our credibility.

Our Mission
We strive to achieve higher standards of
professionalism by proactively providing
our clients with the highest quality service
within pre specified time limits.

22
PARTNERS OF VRCAS

CA Ganapathy Venkatesh

F.C.A

A Fellow Member of the Institute of Chartered Accountants of

India and has over three decades of experience in accounting and
assurance services. He has led various prestigious assurance and
advisory engagements for some large clients in financial services,
manufacturing, infrastructure, and real estate sectors. With a
passion for newer and challenging opportunities, he has experience
into consulting and advisory services in Ind AS Reporting,
Financial Modelling etc.

CA Raghavendra D

F.C.A

A Fellow Member of the Institute of Chartered Accountants of

India, Certified Information System Auditor (ISA by ICAI) and a
Certified Forensic Accountant from ICAI. He maintains
consistently proven record of professional services delivery with
out-of-box innovative thinking. Raghavendra brings two decades
of rich experience and a diligent taxation expert by providing tax
advisory services to clients on various domestic / tax treaty issues
and tax planning / optimization opportunities across a wide
spectrum of industries. He is well experienced in handling tax structuring and tax litigations
matters.

23
SERVICES PROVIDED

• Statutory Audit

• Taxation

• Consulting & advisory

• Business consultancy

• Business process automation

• NRI Services

24
INDUSTRY PROFILE

Industry profile for each of these sectors: FMCG (Fast-Moving Consumer Goods), Hotels,
Agribusiness, Information Technology, and Packaging Industries.

Fast-Moving Consumer Goods (FMCG) Industry

Overview:

The FMCG sector, also known as the Consumer-Packaged Goods (CPG) sector, comprises
products that are sold quickly and at relatively low cost. These goods are in constant demand
due to their necessity and regular consumption. The FMCG industry encompasses a wide range
of products, including food and beverages, personal care, household care, and over-the-counter
medicines.

Market Dynamics:

The FMCG market is characterized by high competition and low profit margins, necessitating
large volumes to ensure profitability. Companies in this sector focus heavily on marketing,
brand loyalty, and supply chain efficiency. Key trends impacting the FMCG industry include
health and wellness, sustainability, and digitalization. Consumers are increasingly seeking
products that are healthier, environmentally friendly, and convenient.

Key Players:

Major players in the FMCG sector include multinational corporations such as Procter &
Gamble, Unilever, Nestlé, and PepsiCo. These companies have extensive global reach,
advanced supply chain networks, and significant marketing budgets. They continuously
innovate to maintain their market positions.

Challenges:

The FMCG industry faces challenges such as fluctuating raw material prices, stringent
regulations, and evolving consumer preferences. Additionally, the rise of private label brands
and e-commerce platforms has intensified competition, pressuring traditional FMCG
companies to adapt swiftly.

25
Future Outlook:

The future of the FMCG industry is likely to be shaped by technological advancements such
as artificial intelligence and data analytics, which can enhance supply chain efficiency and
consumer insights. Sustainability will remain a critical focus, with companies adopting eco-
friendly practices and products to meet consumer demand and regulatory requirements.

Hotel Industry

Overview:

The hotel industry is a key segment of the hospitality sector, encompassing establishments that
provide lodging, food and beverage services, and various other amenities to travelers and
tourists. This industry ranges from budget motels to luxury resorts and boutique hotels.

Market Dynamics:

The hotel industry is highly sensitive to economic conditions, travel trends, and geopolitical
factors. Seasonal fluctuations also play a significant role, with peak seasons varying by
location. The industry has seen a surge in boutique hotels and unique lodging experiences
driven by the millennial market's preference for personalized and authentic experiences.

Key Players:

Global chains such as Marriott International, Hilton Worldwide, and Hyatt Hotels Corporation
dominate the hotel industry. These companies benefit from brand recognition, loyalty
programs, and extensive networks. However, independent and boutique hotels are gaining
ground by offering niche and customized experiences.

Challenges:

The hotel industry faces challenges including high operational costs, fluctuating demand, and
competition from alternative accommodation providers like Airbnb. The COVID-19 pandemic
significantly impacted the industry, leading to increased focus on health and safety measures,
as well as the need for digital transformation.

26
Future Outlook:

Post-pandemic recovery in the hotel industry is expected to be gradual, with a strong emphasis
on hygiene, safety, and contactless services. Technology will play a crucial role in enhancing
guest experiences through innovations like smart rooms and AI-driven customer service.
Sustainability initiatives will also gain importance as travellers become more environmentally
conscious.

Agri-business

Overview:

Agribusiness refers to the business sector encompassing farming and farming-related

commercial activities. This includes the production, processing, distribution, and marketing of
agricultural products such as crops and livestock.

Market Dynamics:

Agribusiness is influenced by factors such as climate change, technological advancements,

government policies, and global trade dynamics. The sector is vital for food security and
employs a significant portion of the global population, especially in developing countries.

Key Players:

Major agribusiness companies include multinational corporations like Cargill, Archer Daniels
Midland (ADM), and Bayer AG. These companies operate across the entire value chain, from
seed production and farming to processing and distribution.

Challenges:

The agribusiness sector faces numerous challenges, including volatile weather patterns, pest
and disease outbreaks, and resource constraints such as water scarcity. Additionally, small-scale
farmers often struggle with access to finance, markets, and modern technology.

Future Outlook:

The future of agribusiness will be shaped by innovations in agricultural technology (AgTech),

such as precision farming, genetically modified crops, and blockchain for supply chain

27
 transparency. Sustainable practices will become increasingly crucial to address
environmental concerns and ensure long-term viability.

Information Technology (IT) Sector

Overview:

The Information Technology sector encompasses companies that produce software, hardware,
or provide IT services. This includes everything from computer systems and software to
telecommunications equipment and data processing services.

Market Dynamics:

The IT sector is driven by rapid technological advancements, digital transformation across

industries, and the proliferation of data. Key trends include cloud computing, artificial
intelligence, cybersecurity, and the Internet of Things (IoT).

Key Players:

Prominent IT companies include tech giants like Apple, Microsoft, Google, IBM, and Amazon.
These companies lead in innovation, research and development, and have substantial market
influence.

Challenges:

Challenges in the IT sector include cybersecurity threats, data privacy concerns, and the need
for constant innovation to stay competitive. Additionally, the sector faces issues related to talent
acquisition and retention, given the high demand for skilled IT professionals.

Future Outlook:

The IT sector is poised for continued growth, with emerging technologies such as quantum
computing and 5G promising to drive further innovation. The sector will play a critical role in
enabling digital transformation across other industries, making it a cornerstone of the global
economy.

28
 Packaging Industry

Overview:

The packaging industry involves the production and design of containers or wrappers for
products. This sector is essential for protecting goods, ensuring their safe transport, and
enhancing their marketability.

Market Dynamics:

The packaging industry is influenced by consumer preferences, regulatory requirements, and

sustainability concerns. Packaging must balance functionality, cost-effectiveness, and
environmental impact.

Key Players:

Leading companies in the packaging industry include Tetra Pak, Amcor, and Sealed Air
Corporation. These companies offer a wide range of packaging solutions, including flexible,
rigid, and specialty packaging.

Challenges:

The packaging industry faces challenges such as the need for sustainable materials, regulatory
compliance, and managing production costs. The shift towards e-commerce has also increased
the demand for durable and protective packaging.

Future Outlook:

Sustainability will be a major focus for the packaging industry, with innovations in
biodegradable and recyclable materials. Advances in smart packaging, which includes features
like QR codes and RFID tags, will enhance product tracking and consumer engagement.

In conclusion, each of these sectors—FMCG, Hotels, Agribusiness, Information Technology,

and Packaging—plays a vital role in the global economy. They are all subject to unique
challenges and trends, but share common themes of innovation, sustainability, and adaptation
to changing consumer behaviors and technological advancements. The interplay of these
factors will continue to shape the future of these industries, driving growth and transformation.

29
COMPANY PROFILE

ITC was incorporated on August 24, 1910 under the

name Imperial Tobacco Company of India Limited. As
the Company's ownership progressively Indianized, the
name of the Company was changed from Imperial
Tobacco Company of India Limited to India Tobacco
Company Limited in 1970 and then to I.T.C. Limited in
1974. In recognition of the Company's multi-business
portfolio encompassing a wide range of businesses -
Cigarettes & Tobacco, Hotels, Information Technology,
Packaging, Paperboards & Specialty Papers, Agri-business, Foods, Lifestyle Retailing,
Education & Stationery and Personal Care - the full stops in the Company's name were removed
effective September 18, 2001. The Company now stands rechristened 'ITC Limited'.

The office on Radha Bazar Lane, Kolkata, was the centre of the Company's existence The
Company's headquarter building, 'Virginia House', which came up on that plot of land two
years later, would go on to become one of Kolkata's most venerated landmarks. Though the
first six decades of the Company's existence were primarily devoted to the growth and
consolidation of the Cigarettes and Leaf Tobacco businesses.

In 1975 the Company launched its hotels business with the acquisition of a hotel in Chennai
which was rechristened 'ITC-Welcomgroup Hotel Chola'. In 1979, ITC entered the Paperboards
business by promoting ITC Bhadrachalam Paperboards Limited, which today has become the
market leader in India. In 1985, ITC set up Surya Tobacco Co. in Nepal as an Indo-Nepal and
British joint venture. Since inception, its shares have been held by ITC, British American
Tobacco and various independent shareholders in Nepal. In 1990, ITC acquired Tribeni Tissues
Limited, a specialty paper manufacturing company and a major supplier of tissue paper to the
cigarette industry. In 1990, leveraging its Agri-sourcing competency, ITC set up the Agri
Business Division for export of Agri-commodities.

In 2000, ITC forayed into the Greeting, Gifting and Stationery products business with the
launch of Expressions range of greeting cards. A line of premium range of notebooks under
brand “paper kraft” launched in 2002. In 2008, ITC repositioned the business as the Education
and Stationery Products Business and launched India's first environment friendly premium

30
 business paper under the “Paper kraft” Brand. ITC also entered the Lifestyle Retailing
business with the Wills Sport range of international quality relaxed wear for men and women
in 2000. The Wills Lifestyle chain of exclusive stores later expanded its range to include Wills
Classic formal wear (2002) and Wills Club life evening wear (2003). ITC also initiated a foray
into the popular segment with its men's wear brand, John Players, in 2002.

VISION

Sustain ITC's position as one of India's most valuable corporations through world class
performance, creating growing value for the Indian economy and the Company's stakeholders

MISSION

To enhance the wealth generating capability of the enterprise in a globalising environment,

delivering superior and sustainable stakeholder value

CORE VALUES
ITC's Core Values are aimed at developing a customer-focused, high-performance organisation
which creates value for all its stakeholders

Nation First: Sab Saath Badhein’

ITC’s ‘Nation First: Sab Saath Badhein’ philosophy underlines its core belief in building a
globally competitive and profitable Indian enterprise that makes an exemplary contribution to
creating larger societal value. As a company deeply rooted in Indian soil, ITC is inspired by
the opportunity to serve larger national priorities. A global exemplar in Sustainability, ITC is
the only enterprise in the world of comparable dimensions to be carbon-positive, water-
positive and solid waste recycling positive for over a decade now. ITC has created over 6
million sustainable livelihoods. Nearly 43% of the total energy consumed in ITC is from
renewable sources. ITC’s premium luxury hotels have the unique distinction of being LEED
Platinum certified.
ITC’s Well-being Out of Waste programme (WOW) that comprehensively addresses the
problem of solid waste management, of which plastic waste is a significant component,
provides an end-to-end sustainable and scalable solution that has reached out to over 1.8 crores
citizens in the country. Together with farmers and local communities, ITC has implemented
largescale interventions in climate-smart and sustainable agriculture that make a meaningful

31
 contribution to the Hon’ble Prime Minister’s vision of doubling farmer incomes. Towards
this, ITC has launched an integrated programme titled ‘Baareh Mahine
Hariyali’ (maximising farm utilisation over 12 months of the year) to give a new dimension to
the complex task of multiplying farmer incomes.
ITC is collaborating with NITI Aayog to progressively build capacity of 2 million farmers in
27 Aspirational Districts to help enhance rural incomes.
ITC is investing in India’s future by building world-class consumer goods factories and
iconic hospitality assets that will contribute to the country’s competitive capacity. These
investment projects underpin the Company’s support to the Government’s “Make in India”
vision.

ITC is one of India’s leading

marketer in Fast Moving Consumer
Goods Business. Some of ITC’s brands
that have gained significant market
standing among consumers are
Aashirvaad, Sunfeast, Bingo!, YiPPee!,
Candyman, mint-o and Kitchens of
India in the Branded Packaged Foods space; EDW Essenza, Fiama, Vivel and Superia in the
Personal Care Products segment; Classmate and Paperkraft in Education & Stationery
products; Mangaldeep in Agarbattis as well as Aim in Matches.

ITC HISTORY TIMELINE

Following is the history and timeline of ITC expansion over the years-

• 1910: ITC was established and founded as a Private Limited Company under Imperial
Tobacco Co. of India Ltd on 24th August.

• 1953: Acquirement of the manufacturing business of Tobacco Manufacturers (India)

Ltd.

• 1954: The Company was converted into a Public Limited Company on 27th October.

32
• 1970: The name of the Company was changed from the Imperial Tobacco Co. of India
Ltd. to India Tobacco Co. Ltd. in May.

• 1972: Entered into the hotel business in October.

• 1973: Received the approval of Govt. for setting up three processing plants.

• 1974: On 1st April name was again changed to ITC Ltd with no acronyms.

• 1975: Purchased the net asset in India of the India Leaf Tobacco Development Co. Ltd.

• 1979: Company's chain of hotels’ name was changed from "Welcome Hotels" to
"Welcomgroup".

• 1983: A new Company under Gujarat Hotels was incorporated under a joint agreement
between the Company and Gujarat Industrial Investment Corporation. They set up a
144-room hotel at Vadodara known as Welcomegroup Vadodara.

• 1986: The Company signed a joint venture agreement with MP Audyogik Vikas Nigam
to set up four hotels over the next five years.

• 1987: New brands- Wills Flake Premium Filter and Scissors Filter were introduced.
The Company also acquired Nedovs Hotel, Srinagar, on lease.

• 1988: Different varieties of oilseeds under the brand name "ADARSH" and cooking oil
under "SUNDROP" were launched into the market.

• 1990: Refined mustard oil under the brand name "REAL GOLD" was introduced in the
market.

• 1993: Successfully launched Hero and Classic Milds brand Cigarettes.

• 1995: Introduced the capstan Menthol filter, capstan standard, and Bristo standard and
re-designed Gold Flake Kings and Berkley Filter. Further, Gold Flake Lights in
Kingsize was introduced into the test markets.

• 1996: The Company launched Classic Ultra Milds and Wills Natural Lights brands.

• 1997: ITC Classic Finance Ltd. was signed with ICICI Ltd.

• 1998: ITC had nearly 105 subsidiaries involved in various kinds of operations.

33
 • 2000: The Lifestyle Retailing Business Division was set up under the Packaging and
Printing Division. ITC also launched Wills Sport, a full range of internationally styled
premium wear for men and women.

• 2003: ITC Ltd's Spriha brand of natural incense sticks (Agarbathis) manufactured by
Cottage Industries was launched on February 21, 2003.

• ITC, on April 04, introduced salt in the staple segment, which is the second offering
from ITC Foods' staple business under the brand name of 'Aashirvaad'. In the same
year, it also unveiled a new brand of agarbattis.

• 2008: Launched eco-friendly "Paperkraft Premium Business Paper".

• 2010: ITC flourished into the Rs. 1,700-crore fairness cream market.

• The Indian cigarette industry attracts international brands, and consequently, one of
India's foremost private sector companies and the most significant domestic cigarette
manufacturer ITC entered the Cigars business in India.

• 2011: ITC Ltd - Padma Bhushan for Mr Y C Deveshwar, Chairman of the Company.
We launched renowned brands like Classmate Notebooks and John Players.

• 2012: ITC’s leading personal care brand, announced the launch of its unique Skin
Nourishing Range of Soaps - Vivel

• 2014: ITC replaces TCS as India's most admired company.

• Enters the e-cigarette business.

• ITC Hotels launches one of the largest ever foreign investments in Colombo.

• 2017: ITC contributes to achieving Swachh Bharat through initiatives.

• 2022: With a Gross Sales Value of ₹ 90,104 crores and Net Profit of ₹ 15,058 crores on
March 31st, 2022, Indian Tobacco Company Limited India is ranked as one of the Most
Profitable FMCG companies in India.

A MODEST BEGINNING

The Company's beginnings were humble. A leased office on Radha Bazar Lane, Kolkata, was
the centre of the Company's existence. The Company celebrated its 16th birthday on August
24, 1926, by purchasing the plot of land situated at 37, Chowringhee, (now renamed J.L. Nehru

34
 Road) Kolkata, for the sum of Rs 310,000. This decision of the Company was historic in
more ways than one. It was to mark the beginning of a long and eventful journey into India's
future. The Company's headquarter building, 'Virginia House', which came up on that plot of
land two years later, would go on to become one of Kolkata's most venerated landmarks.

1925: Packaging and Printing: Backward Integration

Though the first six decades of the Company's existence were primarily devoted to the growth
and consolidation of the Cigarettes and Leaf Tobacco businesses, ITC's Packaging &
Printing Business was set up in 1925 as a strategic backward integration for ITC's Cigarettes
business. It is today India's most sophisticated packaging house.

1975: Entry into the Hospitality Sector - A 'Welcom' Move

The Seventies witnessed the beginnings of a corporate transformation that would usher in
momentous changes in the life of the Company. In 1975, the Company launched its Hotels
business with the acquisition of a hotel in Chennai which was rechristened 'ITC-
Welcomgroup Hotel Chola' (now renamed Welcomhotel by ITC Hotels, Cathedral Road,
Chennai). The objective of ITC's entry into the hotels business was rooted in the concept of
creating value for the nation. ITC chose the Hotels business for its potential to earn high levels
of foreign exchange, create tourism infrastructure and generate large scale direct and indirect
employment. The business also launched the two new brands: Mementos by ITC Hotels - A
new brand of luxury hotels & resorts that offers those rarest of luxuries i.e Great Memories
and Storii by ITC Hotels- A collection of handpicked boutique properties, offering bespoke
stays & immersive experiences. Since then, ITC's Hotels business has grown to occupy a
position of leadership, with over 115 owned and managed properties spread across India under
six brands namely, ITC Hotels, Mementos, Welcomhotel, Storii, Fortune Hotels and
WelcomHeritage. ITC Hotels recently took its first step toward international expansion with
an upcoming super premium luxury hotel in Colombo, Sri Lanka.

1979: Paperboards & Specialty Papers - Development of a Backward Area

In 1979, ITC entered the Paperboards business by promoting ITC Bhadrachalam Paperboards
Limited. Bhadrachalam Paperboards amalgamated with the Company effective March 13, 2002
and became a Division of the Company, Bhadrachalam Paperboards Division. In November
2002, this division merged with the Company's Tribeni Tissues Division to form the
Paperboards & Specialty Papers Division. ITC's paperboards' technology, productivity, quality

35
 and manufacturing processes are comparable to the best in the world. It has also made an
immense contribution to the development of Sarapaka, an economically backward area in the
state of Andhra Pradesh. It is directly involved in education, environmental protection and
community development. In 2004, ITC acquired the paperboard manufacturing facility of BILT
Industrial Packaging Co. Ltd (BIPCO), near Coimbatore, Tamil Nadu. The Kovai Unit allows
ITC to improve customer service with reduced lead time and a wider product range.

1985: Nepal Subsidiary - First Steps beyond National Borders

In 1985, ITC set up Surya Tobacco Co. in Nepal as an Indo-Nepal and British joint venture. In
August 2002, Surya Tobacco became a subsidiary of ITC Limited and its name was changed
to Surya Nepal Private Limited (Surya Nepal). In 2004, the company diversified into
manufacturing and exports of garments.

1990: Paperboards & Specialty Papers - Consolidation and Expansion

In 1990, ITC acquired Tribeni Tissues Limited, a Specialty paper manufacturing company and
a major supplier of tissue paper to the cigarette industry. The merged entity was named the
Tribeni Tissues Division (TTD). To harness strategic and operational synergies, TTD was
merged with the Bhadrachalam Paperboards Division to form the Paperboards & Specialty
Papers Division in November 2002.

1990: Agri Business - Strengthening Farmer Linkages

Also in 1990, leveraging its Agri-sourcing competency, ITC set up the Agri Business
Division for export of Agri-commodities. The Division is today one of India's largest exporters.
ITC's unique and now widely acknowledged e-Choupal initiative began in 2000 with soya
farmers in Madhya Pradesh. Now it extends to 10 states covering over 4 million farmers. Also,
through the 'Choupal Pradarshan Khet' initiative, the Agri services vertical has been focusing
on improving productivity of crops while deepening the relationship with the farming
community.

2002: Education & Stationery Products - Offering the Greenest products

ITC launched line of premium range of notebooks under brand Paperkraft in 2002. To
augment its offering and to reach a wider student population, the Classmate range of
notebooks was launched in 2003. Classmate over the years has grown to become India's
largest notebook brand and has also increased its portfolio to occupy a greater share of the

36
school bag. Years 2007- 2009 saw the launch of Practical Books, Drawing Books, Geometry
Boxes, Pens and Pencils under the 'Classmate' brand. 'Paperkraft' offers a diverse portfolio
in the premium executive stationery and office consumables segment.

2000: Information Technology - Business Friendly Solutions

In 2000, ITC spun off its information technology business into a wholly owned subsidiary, ITC
Infotech India Limited, to more aggressively pursue emerging opportunities in this area.
Today ITC Infotech is one of India's fastest growing global IT and IT-enabled services
companies and has established itself as a key player in offshore outsourcing, providing
outsourced IT solutions and services to leading global customers across key focus verticals -
Banking Financial Services & Insurance (BFSI), Consumer Packaged Goods (CPG), Retail,
Manufacturing, Engineering Services, Media & Entertainment, Travel, Hospitality, Life
Sciences and Transportation & Logistics.

2001: Branded Packaged Foods - Delighting Millions of Households

ITC's foray into the Foods business is an outstanding example of successfully blending multiple
internal competencies to create a new driver of business growth. It began in August 2001 with
the introduction of 'Kitchens of India' ready-to-eat Indian gourmet dishes. In 2002, ITC
entered the confectionery and staples segments with the launch of the brands mint-
o and Candyman confectionery and Aashirvaad Atta (wheat flour). 2003 witnessed the
introduction of Sunfeast as the Company entered the biscuits segment. ITC entered the fast
growing branded snacks category with Bingo! in 2007. In 2010, ITC launched Sunfeast
Yippee! to enter the Indian instant noodles market. In September 2014, ITC
launched GumOn Chewing Gum marking the entry into the category of gums. The Company
entered the Fruit-based juices and beverages market with the launch of B Natural Fruit
beverages in January 2015. ITC's forayed into the dairy segment with the launch of
Aashirvaad Svasti Ghee in November 2015. Launched in April 2016, Fabelle chocolates are
ITC's premier offering in the luxury chocolate space. ITC forayed into the branded coffee
category in July 2016 with the launch of Sunbean Gourmet Coffee. In February 2017, ITC
launched ITC MasterChef super safe spices - the first-of-its-kind spices launched in India,
offering export quality super safe spices to the Indian homemaker. ITC MasterChef
Prawns were launched in June 2017 as the Company entered the Frozen foods segment. ITC's

37
 first foray into fresh fruits and vegetables segment was marked with the launch
of Farmland Potatoes in November 20 17. In 2018, ITC forayed into the packaged milk

segment with the launch of Aashirvaad Svasti pouch milk and into dairy-based beverages
with the Sunfeast Wonderz range of milkshakes. The ITC Master Chef Frozen
Snacks range was also introduced the same year, marking the Company's first venture into the
frozen snacks segment. In July 2020, ITC acquired spices maker Sunrise Foods, looking to
augment its product portfolio.
In just over a decade and a half, the Foods business has grown to a significant size under
numerous distinctive brands, with an enviable distribution reach, a rapidly growing market
share and a solid market standing.

2002: Agarbattis & Safety Matches - Supporting the Small and Cottage Sector
In 2002, ITC's philosophy of contributing to enhancing the competitiveness of the entire value
chain found yet another expression in the Safety Matches initiative. ITC now markets
popular safety matches brands like iKno, Mangaldeep and Aim.
ITC's foray into the marketing of Agarbattis (incense sticks) in 2003 marked the
manifestation of its partnership with the cottage sector. Mangaldeep is a highly established
national brand and is available across a range of fragrances like Rose, Jasmine, Bouquet,
Sandalwood and 'Fragrance of Temple'.

2005: Personal Care Products - Expert Solutions for Discerning Consumers

ITC entered the Personal Care Business in 2005 and the portfolio has grown under 'Essenza
Di Wills', 'Fiama', 'Vivel' 'Superia' brands which have received encouraging consumer
response and have been progressively extended nationally. In May 2013, the business expanded
its product portfolio with the launch of Engage deodorants. ITC marked its foray into the
health space with the acquisition of the brand Savlon and Shower to Shower in 2015. In 2017,
the business acquired the brand Charmis to enhance its skincare portfolio. In 2018, ITC
acquired the brand Nimyle to enter the floor cleaner space. In 2018, the business also launched
the Dermafique brand, foraying into the premium skincare product territory. In 2020, the
Personal Care Product Business launched multiple personal and home hygiene products and
entered the fruit and vegetable wash category with the launch of brand Nimwash. In 2021,
dishwash gel Nimeasy was launched.

38
2010: Expanding the Tobacco Portfolio
In 2010, ITC launched its handrolled cigar, Armenteros, in the Indian market. Armenteros
cigars are available exclusively at tobacco selling outlets in select hotels, fine dining restaurants
and exclusive clubs.

BOARD OF DIRECTORS

Sanjiv Puri (61) is the Chairman & Managing

Director of ITC Limited.
Puri was appointed as a Wholetime Director on the Board
of ITC with effect from December 6, 2015, Chief
Executive Officer in February 2017 and re-designated as
the Managing Director in May 2018.

EXECUTIVE DIRECTORS

Sumant Bhargavan (60) was appointed as a

Wholetime Director on the Board of ITC effective
November 16, 2018. He oversees the Paperboards, Paper
and Packaging as well as the Personal Care and
Education & Stationery Products Businesses of the
Company, and also the Trade Marketing & Distribution
('TM&D') Vertical.

39
 Supratim Dutta (57) was appointed as a Wholetime
Director on the Board of ITC effective July 22, 2022. He
is, inter alia, responsible for Finance, Accounting,
Internal Audit & IT Functions and also for the Investment
Subsidiaries of the Company.

Hemant Malik (58) was appointed as a

Wholetime Director on the Board of ITC effective
August 12, 2023. He is Divisional Chief Executive
of the Foods Business Division of the Company.

INDEPENDENT AND NON-EXECUTIVE DIRECTORS

Shila Bhadra Banerjee (75) joined the ITC

Board as a Non-Executive Director effective
July 24, 2014 and was appointed as an
Independent Director effective July 30, 2014.

Pushpa Subrahmanyam (62) was appointed

as a Non-Executive Independent Director on
the Board of ITC effective April 2, 2024.

40
Sunil Panray (65) was appointed as a Non-
Executive Director on the Board of ITC effective
August 11, 2021, as a representative of Tobacco
Manufacturers (India) Limited, a subsidiary of
British American Tobacco p.l.c. ('BAT').

Atul Singh (64) joined the ITC Board as a Non-

Executive Director effective April 2, 2024, as a
representative of Tobacco Manufacturers (India)
Limited, a subsidiary of British American Tobacco
p.l.c.

.
Nirupama Rao (73) was appointed as a Non-
Executive Independent Director on the Board
of ITC effective April 8, 2016.

Meera Shankar (73) was appointed as a Non-

Executive Independent Director on the Board
of ITC effective September 6, 2012.

41
SWOT ANALYSIS

STRENGHT WEAKNESS

Diversifies protfolio Dependence on cigarette business

strong brand equity slow adoption on e-commerce
sustainable practices hight debt levels

SWOT ANALYSIS

OPPORTUNITIES THREATS

Growing FMCG market Intense competition

expansion into emerging markets rapid technological advancements
acquisition and partnerships changing regulatory landscapes

42
 CHAPTER – 4
RESEARCH DESIGN

43
STATEMENT OF THE PROBLEM

Capital structure helps to find the proportion of debt and equity and in which way it affects the
shareholder’s wealth. Capital structure leads to maximise the value of the firm and minimise
the cost of capital. Leverage analysis is used to know how capital is raised by ITC Ltd. Ratio
analysis is used to evaluate various aspects of ITC company’s operating and financial
performance during the study period. This study depicts the problem faced by the company in
choosing the optimal capital structure.

Despite ITC Ltd.'s prominence and significant contributions to the Indian economy, there is a
need to thoroughly examine how its capital structure affects its financial performance. The
central problem this study addresses is: "How does ITC Ltd.'s capital structure influence its
financial performance?"

This problem can be further broken down into the following research questions:

1. What are the key components of ITC Ltd.'s capital structure?

2. How has ITC Ltd.'s capital structure evolved over the past decade?
3. What are the trends in ITC Ltd.'s financial performance over the same period?
4. How does the proportion of debt and equity in ITC Ltd.'s capital structure affect its
profitability?
5. What is the impact of ITC Ltd.'s capital structure on its liquidity and solvency?
6. How does ITC Ltd.'s capital structure influence its cost of capital?
7. Are there any industry-specific factors that affect ITC Ltd.'s capital structure and
financial performance?

NATURE OF THE STUDY

The study focuses on analysing the influence of ITC Ltd.'s capital structure on its financial
performance, comparing it with other similar firms or within different time periods. This
analysis involves evaluating how different components of ITC Ltd.'s capital structure—such as
equity, debt, and retained earnings—affect various financial performance indicators, including
profitability, return on assets (ROA), return on equity (ROE), and overall market valuation by
using capital structure theories, EBIT-EPS Analysis and leverages.

44
NEED OF THE STUDY

The influence of a company's capital structure on its financial performance is a crucial aspect
of financial analysis. By comparing ITC Ltd.’s capital structure with that of its competitors,
you can gain insights into how its financial decisions impact its performance relative to others
in the industry. This comparative analysis can help identify strengths, weaknesses,
opportunities, and threats related to ITC Ltd.’s capital structure, which can inform strategic
decision-making and improve overall financial performance. To conduct this study effectively,
you would need access to financial data of ITC Ltd and its competitors, as well as a thorough
understanding of financial analysis techniques and industry benchmarks.

RESEARCH GAP

On the basis of literature reviewed, there is a gap in understanding how various factors impact
capital structure and how firms maintain it. This study will bridge the gap by examining the
relationship between capital structure and financial performance, offering insights into
effective capital structure management methods.

Firm- specific analysis for ITC Ltd:

Existing literature lacks a detailed examination of ITC Ltd.'s capital structure and its impact on
financial performance.

ITC's diversified business model presents a unique case to study the differential impact of
capital structure across various segments.

Comparative Analysis with similar firms:

Comparative studies involving ITC Ltd. and its peers in the FMCG sector or other segments it
operates in are limited.

Understanding how ITC's capital structure compares to and affects its performance relative to
competitors can provide valuable insights.

Temporal Changes and strategic shifts:

45
 Research focusing on how ITC Ltd.'s capital structure decisions have evolved over time
and their long-term effects on performance is lacking.

Strategic shifts, such as changes in debt levels or equity financing in response to market
conditions, remain underexplored.

Context of emerging Markets:

Most existing studies are based on developed markets, and the findings may not be directly
applicable to emerging markets like India.

Specific factors affecting capital structure decisions in emerging markets, such as regulatory
environments, market volatility, and access to capital, need further investigation.

HYPOTHESIS OF THE STUDY

Null Hypothesis (H0): There is no significant influence of ITC Ltd.'s capital structure on its
financial performance.

Alternative Hypothesis (H1): There is a significant influence of ITC Ltd.'s capital structure on
its financial performance.

OBJECTIVES OF STUDY

1. To know the importance of capital structure in the development of the firms

2. To analyze how the capital structure get impacted with other factors of the firms

3. To know what are the methods to maintain or retain the capital structure of the firms

SCOPE OF THE STUDY

The scope of the study involves examining how ITC Ltd.'s capital structure influences its
financial performance. It will assess the significance of capital structure for firm development,
analyze its interaction with other factors, and explore strategies for maintaining optimal capital
structure. The focus is on comparative analysis and practical implications for ITC Ltd. The
scope of the study on analysing the influence of ITC Ltd.'s capital structure on financial

46
 performance through a comparative study would typically involve examining various
aspects such as:

1. Analysing ITC Ltd.'s current capital structure, including its debt-to-equity ratio, leverage
ratios, and other financial metrics.
2. Comparing ITC Ltd.'s capital structure with that of its competitors or industry peers to
identify any trends or differences.
3. Assessing the impact of ITC Ltd.'s capital structure on its financial performance indicators
such as profitability, liquidity, solvency, and efficiency.
4. Investigating how changes in ITC Ltd.'s capital structure over time have affected its financial
performance.
5. Identifying factors that may influence ITC Ltd.'s capital structure decisions and how these
decisions impact the company's overall financial health.
6. Drawing conclusions and providing recommendations based on the findings of the study to
help improve ITC Ltd.'s financial performance through optimal capital structure management.

This study would involve in-depth financial analysis, comparative analysis, and possibly
statistical analysis to draw meaningful conclusions about the relationship between ITC Ltd.'s
capital structure and its financial performance.

RESEARCH METHODOLOGY AND DATA COLLECTION

a. Data Collection Method

Secondary data

• Secondary data annual reports, financial statements, industry reports, and databases
such as Bloomberg and Capital IQ.
• Period of study: 2021-2023 to capture long-term trends and strategic shifts.
b. Tools for Data Collection
• Financial Statements: The primary source of data for analysing the capital structure
and financial performance of ITC Ltd. would be its financial statements, including the
balance sheet, income statement, and cash flow statement. These documents provide
information on the company's assets, liabilities, revenues, expenses, and cash flows,
which are essential for assessing its capital structure and financial health.

47
 • Annual Reports: ITC Ltd.'s annual reports contain detailed information about its
financial performance, strategic initiatives, capital structure decisions, and future
outlook. Analysing these reports can provide valuable insights into the company's
capital structure dynamics and its impact on financial performance over time.

c. Data Analysis Plan

a. Net income theory
b. Net operating income theory
c. Traditional theory
d. EBIT – EPS Analysis
e. Financial leverage to analyse the risk

LIMITATIONS OF THE STUDY

1. The study may be limited by the timeframe within which the analysis is conducted.

2. The findings of the study may be specific to ITC Ltd. and may not be generalizable to
other firms or industries.

3. The analysis may be influenced by external factors beyond the control of ITC Ltd., such as
changes in economic conditions, regulatory environment, industry dynamics, and market
trends.

48
 CHAPTER – 5

DATA ANALYSIS AND INTERPRETATION

49
The most important decision a company makes in pursuit of maximizing its value is typically
the decision concerning what products to manufacture and/or what services to offer. The
decision on how to finance investments (e.g., in factories and equipment), the so-called
capital structure decision, is often seen as less important, even secondary. As we will see in
this reading, the importance of the capital structure decision depends on the assumptions one
makes about capital markets and the agents operating in it.

Under the most restrictive set of assumptions, the capital structure decision—the choice
between how much debt and how much equity a company uses in financing its investments—
is irrelevant. That is, any level of debt is as good as any other. The capital structure decision
is not only secondary but also irrelevant. However, as some of the underlying assumptions
are relaxed, the choice of how much debt to have in the capital structure becomes
meaningful. Under a particular set of assumptions, it is even possible to have an optimal level
of debt in the capital structure—that is, a level of debt at which company value is maximized.

Capital structure

Combination of various component of capital is called capital structure. The overall cost of
capital may reduce as the proportion of debt increases in the capital structure because cost of
debt is less than cost of equity, while on the other hand risk of the firm increases with the
increase in the fixed contractual obligation, which again increases the weighted average cost
of capital. The firm may use only equity, or only debt, or a combination of equity +debt, or a
combination of equity + debt + preference shares or may use other similar combinations to
form capital structure.

Types of Capital Structure

The meaning of Capital structure can be described as the arrangement of capital by using
different sources of long term funds which consists of two broad types, equity and debt. The
different types of funds that are raised by a firm include preference shares, equity shares,
retained earnings, long-term loans etc. These funds are raised for running the business.

50
 Equity Capital

Equity capital is the money owned by the shareholders or owners. It consists of two different
types

a) Retained earnings: Retained earnings are part of the profit that has been kept separately by
the organisation and which will help in strengthening the business.

b) Contributed Capital: Contributed capital is the amount of money which the company owners
have invested at the time of opening the company or received from shareholders as a price for
ownership of the company.

Debt Capital

Debt capital is referred to as the borrowed money that is utilised in business. There are different
forms of debt capital:

1. Long Term Bonds: These types of bonds are considered the safest of the debts as they
have an extended repayment period, and only interest needs to be repaid while the
principal needs to be paid at maturity.

2. Short Term Commercial Paper: This is a type of short term debt instrument that is used
by companies to raise capital for a short period of time

Optimal Capital Structure

Optimal capital structure is referred to as the perfect mix of debt and equity financing that helps
in maximising the value of a company in the market while at the same time minimises its cost
of capital.

Capital structure varies across industries. For a company involved in mining or petroleum and
oil extraction, a high debt ratio is not suitable, but some industries like insurance or banking
have a high amount of debt as part of their capital structure.

Importance of Capital Structure

Capital structure is vital for a firm as it determines the overall stability of a firm. Here are some
of the other factors that highlight the importance of capital structure

51
 1. A firm having a sound capital structure has a higher chance of increasing the market
price of the shares and securities that it possesses. It will lead to a higher valuation in
the market.

2. A good capital structure ensures that the available funds are used effectively. It prevents
over or under capitalisation.

3. It helps the company in increasing its profits in the form of higher returns to
stakeholders.

4. A proper capital structure helps in maximising shareholder’s capital while minimising

the overall cost of the capital.

5. A good capital structure provides firms with the flexibility of increasing or decreasing
the debt capital as per the situation.

Features of an appropriate capital structure

Every firm wants to have an appropriate capital structure. Each firm strives to have that level
of debt-equity proportion which helps to maximize the market value of share and minimize the
cost of capital. Following are the features of an appropriate capital structure

1)Profitability: A sound capital structure can allow for the most effective use of leverage at the
lowest possible expense in order to improve performance and thereby maximise earnings per
share.

2) Flexible: A financial manager should be able to modify the firm's capital structure with a
minimal expense if required. It should therefore be necessary for the company to supply
funding whenever required to support its productive operations.

3) Solvency: Excessive debt jeopardizes the company's solvency and credit scores. Debt
financing can be limited to the degree that it can be properly repaid.

4) Conservatism: A company's debt capability can never be exceeded to the extent that it
becomes difficult to service its debt. Both the interest and the principal balance must be paid
on the debt. Future cash flows are expected to make these payments. Cash insolvency will lead
to legal insolvency if potential cash flows are in adequate.

52
 5) Control: The capital structure should not be changed so much that it leads to loss of
control in the company. The proportion of debt and equity thus be kept in such a manner that
there is no loss of control

Factors Determining Capital Structure

Following are the factors that play an important role in determining the capital structure:

1. Costs of capital: It is the cost that is incurred in raising capital from different fund
sources. A firm or a business should generate sufficient revenue so that the cost of
capital can be met and growth can be financed.

2. Degree of Control: The equity shareholders have more rights in a company than the
preference shareholders or the debenture shareholders. The capital structure of a firm
will be determined by the type of shareholders and the limit of their voting rights.

3. Trading on Equity: For a firm which uses more equity as a source of finance to borrow
new funds to increase returns. Trading on equity is said to occur when the rate of return
on total capital is more than the rate of interest paid on debentures or rate of interest on
the new debt borrowed.

4. Government Policies: The capital structure is also impacted by the rules and policies
set by the government. Changes in monetary and fiscal policies result in bringing about
changes in capital structure decisions.

Practical Implementation of Capital Structure Theory

1. Setting a Target Debt-to-Equity Ratio

Companies should set a long-term target debt-to-equity ratio range to guide financing
decisions. This ratio compares a company's total liabilities to shareholders' equity and indicates
financial leverage. Highly leveraged firms may aim for a debt-equity ratio between 1.0-1.5x.
More conservative companies may target 0.5-1.0x. The optimal target depends on factors like
industry, profitability, growth prospects, and risk tolerance. As market conditions and business
needs evolve, companies can tweak their capital structure to remain within the targeted
leverage range.

53
 2. Optimizing the Cost of Capital through Strategic Financing

The weighted average cost of capital (WACC) measures a company's blended cost of raising
funds from different sources. Strategic financing decisions can optimize this overall cost of
capital. For example, since debt is cheaper than equity, substituting low-cost debt for equity
can reduce WACC, provided the company maintains strong credit metrics. However, excessive
leverage increases default risk which raises the cost of debt. Finding the right mix of debt and
equity that minimizes WACC while preserving financial flexibility is key.

3. Seasoned Equity Offerings and Market Conditions

The ideal time to issue seasoned equity is when the stock price is high. This minimizes dilution
for existing shareholders and allows the company to raise more capital per share issued.
However, market downturns may necessitate equity issuances regardless of stock price to shore
up liquidity. Companies can also stage smaller offerings over several quarters rather than a
single large issuance to reduce dilution impact. Overall, balancing capital needs and
minimizing dilution are both important considerations when planning equity offerings.

4. Debt Financing and the Importance of Credit Ratings

A company's credit rating significantly impacts its cost of borrowing and access to debt
financing. Companies with investment-grade ratings can issue bonds at much lower rates than
those with sub-investment grade ratings. Ratings downgrades can drastically increase existing
debt costs through "rating triggers". Maintaining adequate credit metrics to preserve ratings is
vital for companies that rely on bond financing for operations and growth capital. Factoring in
the impact of capital structure decisions on credit ratings is key.

5. Reserves for Contingencies and Capital Expenditures

Companies should maintain liquidity reserves to fund unexpected events and significant capital
expenditures while avoiding unnecessary equity dilution or high-cost debt issuances at
inopportune times. For example, technology companies may keep reserves for acquisition
opportunities that suddenly arise. Retailers may want a buffer to invest in distribution
infrastructure modernization if needed. Building these reserves can be funded through retained
earnings without taking on additional debt or issuing equity. Having contingent capital readily
available provides flexibility to fund strategic initiatives at short notice.

54
What mixture of equity and debt will result in the lowest WACC?

As the WACC is a simple average between the cost of equity and the cost of debt, one’s
instinctive response is to ask which of the two components is the cheaper, and then to have
more of the cheap one and less of expensive one, to reduce the average of the two.

The cost of debt is cheaper than cost of equity. As debt is less risky than equity, the required
return needed to compensate the debt investors is less than the required return needed to
compensate the equity investors. Debt is less risky than equity, as the payment of interest is
often a fixed amount and compulsory in nature, and it is paid in priority to the payment of
dividends, which are in fact discretionary in nature. Another reason why debt is less risky than
equity is in the event of a liquidation, debt holders would receive their capital repayment before
shareholders as they are higher in the creditor hierarchy (the order in which creditors get
repaid), as shareholders are paid out last.

Debt is also cheaper than equity from a company’s perspective is because of the different
corporate tax treatment of interest and dividends. In the profit and loss account, interest is
subtracted before the tax is calculated; thus, companies get tax relief on interest. However,
dividends are subtracted after the tax is calculated; therefore, companies do not get any tax
relief on dividends. Thus, if interest payments are $10m and the tax rate is 30%, the cost to the
company is $7m. The fact that interest is tax-deductible is a tremendous advantage.

The instinctive and obvious response is to gear up by replacing some of the more expensive
equity with the cheaper debt to reduce the average, the WACC. However, issuing more debt
(i.e. increasing gearing), means that more interest is paid out of profits before shareholders can
get paid their dividends. The increased interest payment increases the volatility of dividend
payments to shareholders, because if the company has a poor year, the increased interest
payments must still be paid, which may have an effect the company’s ability to pay dividends.
This increase in the volatility of dividend payment to shareholders is also called an increase in
the financial risk to shareholders. If the financial risk to shareholders increases, they will
require a greater return to compensate them for this increased risk, thus the cost of equity will
increase and this will lead to an increase in the WACC.

55
 In summary, when trying to find the lowest WACC, you:

• issue more debt to replace expensive equity; this reduces the WACC, but

• more debt also increases the WACC as:

o gearing

o financial risk

o equity

o WACC.

Which Financial Principles Help Companies Choose Capital Structure?

As companies grow and continue to operate, they must decide how to fund their various
projects and operations as well as how to pay employees and keep the lights on. While sales
revenues are key sources of income, most companies also seek capital from investors or
lenders as well. But what is the right mix of equity stock sold to investors and bonds sold to
creditors? Capital structure theory is the analysis of this key business question.

The net income approach, static trade-off theory, and the pecking order theory are three
financial principles that help a company choose its capital structure. Each plays a role in the
decision-making process depending on the type of capital structure the company wishes to
achieve. The pecking order theory, however, has been empirically observed to be most used
in determining a company's capital structure.

56
 BALANCE SHEET OF LAST 3 YEARS

Table 5.1: Balance sheet for 3 years

PARTICULARS as on 31st march as on 31st march as on 31st march
2023 (₹ in CR ) 2022 ( ₹ in CR ) 2021 ( ₹ in CR )
EQUITY AND LIABILITIES
Equity
(a) Equity Share capital 1242.8 1232.33 1230.88
(b) Other Equity 66351 60167.24 57773.74
Liabilities
Non-current liabilities
(a) Financial Liabilities
(i) Borrowings 3.28 4.54 5.28
(ii) Lease Liabilities 273.59 259.79 272.36
(iii Other financial liabilities 152.49 96.5 239.35
(b) Provisions 201.83 186.87 157.07
(c) Deferred tax liabilities (Net) 1621.13 1667.14 1727.73
Current liabilities
(a) Financial Liabilities
(i) Borrowings 1.26 0.74 0.35
(ii) Trade payables
Total outstanding dues of micro enterprises 137.5 100.96 59.34
and small enterprises
Total outstanding dues of creditors other 4213.76 4122.44 4059.97
than micro enterprises and small enterprises
(iii) Lease Liabilities 46.54 46.09 51.36
(iv) Other financial liabilities 1730.68 1503.59 1247.82
(b) Other current liabilities 5446.16 5097.28 4369
(c) Provisions 63.59 55.6 169.05
(d) Current Tax Liabilities (Net) 776.13 551.39 217.06
TOTAL EQUITY AND LIABILITIES 82261.74 75092.5 71580.36

ASSETS
Non-current assets
(a) Property, Plant and Equipment 20491.32 19559.15 18502.87
(b) Capital work-in-progress 1681.47 2442.34 3329.97
(c) Investment Property 352.26 364.2 376.56
(d) Goodwill 577.2 577.2 577.2
(e) Other Intangible assets 2037.42 2007.22 2004.32
(f) Other Intangible assets under development 15.13 23.84 3.5
(g) Right of use assets 715.91 712.84 726.84
(h) Financial Assets
(i) Investments 16363.55 15657.32 12937.42
(ii) Loans 4.07 5.06 2.37
(iii) Others 3608.23 1572.4 72.45

57
(iv) Other non-current assets 1211.74 1228.92 1231.62
Current assets
(a) Inventories 10593.9 9997.77 9470.87
(b) Financial Assets
(i) Investments 16357.07 11624.95 14046.71
(ii) Trade receivables 2321.33 1952.5 2090.29
(iii) Cash and cash equivalents 206.88 184.97 231.28
(iv) Other Bank Balances 3624.38 3692.97 3770.25
(v) Loans 5.95 5.73 2.77
(vi) Others 705.84 2287.97 1197
(c) Other current assets 1388.09 1195.15 1006.07
TOTAL ASSETS 82261.74 75092.5 71580.36

PROFIT & LOSS A/C OF LAST 3 YEARS

Table 5.2: Profit And Loss account for 3years
PARTICULARS As on 31st As on 31st As on 31st
march 2023 (₹ march 2022 march 2021
in CR) (₹ in CR) (₹ in CR)
I Revenue from Operations 70251.28 59745.56 48524.56
II Other Income 2437.61 2589.97 3250.99
III Total Income (I+II) 72688.89 62335.53 51775.55
IV EXPENSES
Cost of materials consumed 19809.83 16064.5 13605.07
Purchases of Stock-in-Trade 9109.85 10734.48 6896.41
Changes in inventories of finished goods, Stock- -39.5 -566.46 -526.86
in-Trade, work-in-progress and intermediates
Excise duty 4208.01 3404.29 3039.43
Employee benefits expense 3569.46 3061.99 2820.95
Finance costs 41.81 41.95 47.47
Depreciation and amortization expense 1662.73 1652.15 1561.83
Other expenses 9649.16 8113.1 7167.06
Total expenses (IV) 48011.35 42506 34611.36
V Profit before exceptional items and tax 24677.54 19829.53 17164.19
(III-IV)
VI Exceptional Items 72.87 - -
VII Profit before tax (V+VI) 24750.41 19829.53 17164.19
VIII Tax expense:
Current Tax 6025.32 4833.88 4035.36
Deferred Tax -28.22 -62.18 97.15
IX Profit for the year (VII-VIII) 18753.31 15057.83 13031.68

58
 THEORIES OF CAPITAL STRUCTURES

All these capital structure theories are based on certain assumptions. These are as follows:

• There are only two types of funding available: debt and equity. There are no other forms
of funding such as preference share capital and retained earnings.
• The firm will pay all its earning as dividends. Thus, dividend payout ratio is 1.
• There is no cost of floatation and no transaction cost.
• The firm has perpetual life.
• All investors are rational. So, all investors want to maximize their return with
minimization of risk.
• both cost of debt, and equity are independent of capital structure.
• No change in investment decisions of the firm. Le no change in total assets
• Firm's total financing remains constant but the proportion of debt and
equity may change

59
 1. NET INCOME APPROACH

Net Income Approach was presented by Durand. The theory suggests increasing value of the
firm by decreasing the overall cost of capital which is measured in terms of Weighted Average
Cost of Capital. This can be done by having a higher proportion of debt, which is a cheaper
source of finance compared to equity finance. Weighted Average Cost of Capital (WACC) is
the weighted average costs of equity and debts where the weights are the amount of capital
raised from each source.

According to Net Income Approach, change in the financial leverage of a firm will lead to a
corresponding change in the Weighted Average Cost of Capital (WACC) and also the value of
the company. The Net Income Approach suggests that with the increase in leverage (proportion
of debt), the WACC decreases and the value of firm increases. On the other hand, if there is a
decrease in the leverage, the WACC increases and thereby the value of the firm decreases.

ASSUMPTIONS OF NET INCOME APPROACH

Net Income Approach makes certain assumptions which are as follows:

• The increase in debt will not affect the confidence levels of the investors.
• There are only two sources of finance; debt and equity. There are no sources of finance
like Preference Share Capital and Retained Earning.
• All companies have uniform dividend payout ratio; it is 1.
• There is no flotation cost, no transaction cost and corporate dividend tax.
• Capital market is perfect, it means information about all companies are available to all
investors and there are no chances of over pricing or under-pricing of security. Further
it means that all investors are rational. So, all investors want to maximize their return
with minimization of risk.
• All sources of finance are for infinity. There are no redeemable sources of finance.

60
Value of the firm (V) = S+D

Where,

V= Value of the firm

S= Market value of equity’
D=Market value of debt
Market value of equity (S) = NI
Ke
NI = Earnings available for equity shareholders
Ke = equity capitalization rate
Overall cost of capital = EBIT
Value of the firm

Table 5.3: Net income Approach

2023(₹) 2022(₹) 2021(₹)
EBIT 24750.41 19829.53 17164.19
Less : interest on debentures 376.0464 298.6515 324.3999
Earnings Available for equity holders i.e. Net 24374.3636 19530.8785 16839.7901
income (NI)
Equity capitalization rate (Ke) 10.25% 10.25% 10.25%
cos of debt 14.97% 14.97% 14.97%

61
 Market value of equity (s) = NI/Ke 237798.669 190545.156 164290.6351
Market value of debt (D) 2512 1995 2167
Total value of firm V=S+D 240310.669 192540.156 166457.6351

Overall cost of capital = EBIT/Value of firm 0.10299339 0.10298906 0.103114465

As there is an assumption in net income approach is of no taxes. Therefore, taking taxes as

nil, the EBT will be equal to the amount available for equity shareholders. We can see that
has the amount of debt financing increasing the capital mix the WACC i.e. overall cost
of capital (Ko) is reducing.

The capital structure theory known as the net income approach says there is a direct
relationship between the capital structure and the value of the business. That is, lowering the
cost of capital can increase the value of a company.

More debt is cheaper because of the ability to deduct interest and lower taxes. Thus, the
maximum value under the net income approach is with 100% debt financing.

Chart 5.1: Net Income Approach

NI APPROACH

300000

250000

200000

150000

100000

50000

0
EBIT Total value of firm V=S+D Overall cost of capital =
2023(₹) 2022(₹) 2021(₹) EBIT/Value of firm

62
 Hence there is increase in the EBIT and value of the firm which has direct relationship
with the capital structure and there is also increase in the financial performance with increase
in the EBIT.

2. NET OPERATING INCOME APPROACH

This approach was put forth by Durand and totally differs from the Net Income Approach.
Also, famous as traditional approach, Net Operating Income Approach suggests that change in
debt of the firm/company or the change in leverage fails to affect the total value of the
firm/company. As per this approach, the WACC and the total value of a company are
independent of the capital structure decision or financial leverage of a company.

This theory is just opposite to NI approach. NI approach is relevant to capital structure decision.
It means decision of debt equity mix does affect the WACC and value of the firm. As per NOI
approach the capital structure decision is irrelevant and the degree of financial leverage does
not affect the WACC and market value of the firm. NOI approach evaluates the cost of capital
and therefore the optimal Capital Structure on the basis of operating leverage by means of NOI
approach

ASSUMPTIONS / FEATURES OF NET OPERATING INCOME APPROACH:

• The overall capitalization rate remains constant irrespective of the degree of leverage.
At a given level of EBIT, the value of the firm would be “EBIT/Overall capitalization
rate”
• Value of equity is the difference between total firm value less value of debt i.e. Value
of Equity = Total Value of the Firm – Value of Debt
• WACC (Weightage Average Cost of Capital) remains constant; and with the increase
in debt, the cost of equity increases. An increase in debt in the capital structure results
in increased risk for shareholders. As a compensation of investing in the highly
leveraged company, the shareholders expect higher return resulting in higher cost of
equity capital.

63
Formulas in NOI Approach

Value Of The Firm(V) = EBIT *100

Ko

EBIT = Earnings Before Int. & Tax

Ko = Overall Cost of Capital

Market Value Of Equity (S) = V – B

V = Value of Firm
B = Value of Debt
Table 5.4: Net Operating income Approach
2023(₹) 2022(₹) 2021(₹)
EBIT 24750.41 19829.53 17164.19
Less: interest on debentures 376.0464 298.6515 324.3999
EBT 24374.3636 19530.8785 16839.7901
less: tax (no tax assumption) nil nil nil
Earnings Available for equity holders 24374.3636 19530.8787 16839.7901
(=EBT)
Overall cost of capital 10.25% 10.25% 10.25%

64
 Total Value of the firm (EBIT/overall cost of 241467.4146 193458.8293 167455.512
capital)
Total Value of the debt 2512 1995 2167
Total value of equity (Total value of firm- 238955.4146 191463.8293 165288.512
Total value of debt)

Cost of equity (Ke=EBT/value of equity) 0.102003814 0.10200819 0.10188119

Ke*100 10.20038137 10.20081901 10.1881189

Thus we can see that as the proportion of debt has increased in the capital structure, the cost of
equity has also increased. Increase in debt will increase the risk perception of equity
shareholders resulting in an increase in cost of equity (Ke).

Chart 5.2: Net Operating income Approach

10.20038137 10.18811887
1200.00%
10.20081901
1000.00%

800.00%

600.00%

400.00%

200.00%
10.25% 10.25% 10.25%
0.00%
Overall cost of capital ke*100

2023(₹) 2022(₹) 2021(₹)

The net operating income approach proposes that the capital structure decisions of a business
are irrelevant to the company's value. That is, this capital structure theory says there is no
relationship between the capital structure and the value of a business. This theory says that the
WACC will be constant if the company takes on more debt. The increased debt increases
shareholders' risk, which raises the cost of equity. That increase in the cost of equity cancels

65
 out the cheaper cost of debt. Thus, a change in debt or leverage for the company does not
affect its value.

For example, a company using the net operating income approach sees no correlation
between debt or equity financing and company value. The company's WACC remains the
same regardless of whether it uses more debt. Thus, the company seeks financing that is the
easiest and quickest to secure. Hence there is a constant cost of equity.

3. TRADITIONAL APPROACH TO CAPITAL STRUCTURE:

The traditional approach was propounded by Ezra Soloman in 1963. This approach is the
compromise between NI approach and NOI approach. The traditional approach rejects both
extreme prepositions of relevance approach of NI theory and irrelevance approach of NOI
theory. This approach neither assumes constant cost of equity (Ke) and declining Weighted
Average Cost of Capital (WACC) like NI approach nor increasing cost of equity and constant
cost of debt (Kd) and overall cost of capital (ko) like NOI approach. Traditional Approach
Under traditional approach WACC decreases only up to a certain level of financial leverage
and starts increasing beyond this level. At the judicious mix of debt and equity as of optimum
capital structure weighted average cost of capital is minimum and the market value of the firm
is maximum.

There is also an other variant of this approach which suggests that rather than a single capital
structure there exists a range of capital structure which is optimum. This can be understood as
follows.

First, use of more debt will not affect the cost of equity. The Ke remains constant or rises so
lightly that it does not offset the benefit of cheaper debts. Thus, at first increase in debt capital
will result in a decrease in the overall cost of capital (ko) and increase the value of the firm

Second, now as the firm reaches a certain level of leverage then there is a range in which capital
structure is optimal i.e. that further increase in leverage will have a neglible effect on overall
cost of capital and firm's value in this range.

Third, beyond the certain limit any further increase in leverage will increase the financial risk
perception of investors so much that there will be increase in the cost of equity due to more

66
 financial risk. This higher equity capitalization rate will exceed the benefits of cheaper
debts in such a way that ultimately the value of firm will decrease and overall cost of capital
will increase with the leverage.

Traditional approach is also called as the 'intermediate approach

ASSUMPTIONS UNDER TRADITIONAL APPROACH:

• The rate of interest on debt remains constant for a certain period and thereafter with an
increase in leverage, it increases.
• The expected rate by equity shareholders remains constant or increase gradually. After
that, the equity shareholders starts perceiving a financial risk and then from the optimal
point and the expected rate increases speedily.
• As a result of the activity of rate of interest and expected rate of return, the WACC first
decreases and then increases. The lowest point on the curve is optimal capital structure.

Three stage of capital structure under traditional approach

Stage 1: The value of the firm may first increase with moderate leverage when WACC is
decreasing.

Stage 2: Reach the maximum value when WACC is minimum.

Stage 3: Then starts declining with higher financial leverage when WACC start increasing.

67
 Formulas in Traditional Approach

Value of the Firm(V) = Db + Eq

Db = Mkt value of debt

Eq = Mkt value of Equity

Market Value of Equity (Eq) = EBT

Ke
EBT = EBIT - Interest
Ke = Cost of equity

WACC (Ko) = EBIT *100

V
EBIT = Earnings Before Interest Tax
V = Value of firm

So as per the traditional approach, initially the value of firm can be increased and the cost of
capital can be decreased by using more debt as debt is a cheaper source than equity. So, by
judicious mix of dept and equity a firm can reach to an optimum capital structure.

But once the optimum capital structure is reached, then after this point any further increase in
debt capital will increase the risk perception of equity shareholders and thus the cost of equity
increases. So, as per this approach their exist a combination of debt and equity
which is optimum.

Table 5.5: Traditional method approach

2023(₹) 2022(₹) 2021(₹)
EBIT 24750.41 19829.53 17164.19
Debt component 2512 1995 2167
Rate of interest 14.97% 14.97% 14.97%
(-) Interest 376.0464 298.6515 324.3999
EBT 24374.3636 19530.8785 16839.7901
Cost of equity 10.25% 10.25% 10.25%
Value of Equity (EBT / Ke) 237798.6693 190545.1561 164290.635
Total Value of Firm (Db + Eq) 240310.6693 192540.1561 166457.635

68
 WACC (EBIT / Value) * 100 10.2993388 10.29890616 10.3114465

Traditional approach is a compromise between NI and NOI approach. Thus as per this
approach the value of the firm increases and cost of firm decreases with increase in the
proportion of debt up to a certain level.

And after reaching this certain level, the further increase in the proportion of debt capital will
change the risk perception of investors and equity shareholders will demand more return for
any further increase in debt capital.

Chart 5.3: Traditional method Approach

300000

250000

200000

150000

100000

50000

0
EBT Total Value of Firm (Db + Eq) WACC (EBIT / Value) * 100

2023(₹) 2022(₹) 2021(₹)

4. MODIGLANI-MILLER APPROACH (MM)

The NOI approach is definitional or conceptual and lacks behavioural significance.

However, Modigliani-Miller approach provides behavioural justification for constant
overall cost of capital and therefore, total value of the firm.

Assumptions of MM Approach

69
 • Capital markets are perfect

• All information is freely available

• There are no transaction costs

• All investors are rational

• Firms can be grouped into ‘Equivalent risk classes’

• Non-existence of corporate taxes

But this approach can be understood in following two case:

1. Without taxes
2. With taxes

MM Model proposition

– Value of a firm is independent of the capital structure.

– Value of firm is equal to the capitalized value of operating income (i.e. EBIT) by the
appropriate rate (i.e. WACC).

– Value of Firm = Mkt. Value of Equity + Mkt. Value of Debt = Expected EBIT / Expected
WACC.

70
 6. THE TRADE OFF THEORY

The theory was introduced by economists Franco Modigliani and Merton Miller, published in
the American Economic Review in 1958 titles ad “The Cost of Capital, Corporation Finance
and the Theory of Investment”. They later refined the theory to include factors such as taxation
and bankruptcy costs, which led to the development of the trade-off theory of capital structure.

The theory argues that companies should determine the optimal mix of debt and equity
financing that balances the benefits and costs of each source, taking into account factors such
as the company's risk profile, expected future cash flows, and the tax implications of each
source of financing.

The trade-off theory of capital structure can help traders and investors to evaluate the valuation of
a stock as part of fundamental analysis. By understanding the theory, they can determine the optimal

71
 capital structure for a company and calculate its theoretical value. This can help in determining
whether a stock is under or overvalued.

7. PECKING ORDER THEORY

The pecking order theory is in sharp contrast with the theories that attempt to find an optimal
capital structure by studying the trade-off between the advantages and disadvantages of debt
finance. In this approach, there is no search for an optimal capital structure. Companies
simply follow an established pecking order which enables them to raise finance in the
simplest and most efficient manner, the order is as follows:

1. Use all retained earnings available;

2. Then issue debt;

3. Then issue equity, as a last resort.

The pecking order theory arises from the concept of asymmetric information. Asymmetric
information, also known as information failure, occurs when one party possesses more (better)
information than another party, which causes an imbalance in transaction power.

72
 Company managers typically possess more information regarding the company’s
performance, prospects, risks, and future outlook than external users such as creditors (debt
holders) and investors (shareholders). Therefore, to compensate for information asymmetry,
external users demand a higher return to counter the risk that they are taking. In essence, due
to information asymmetry, external sources of finances demand a higher rate of return to
compensate for higher risk.

ESTABLISHING AN APPROPRIATE CAITAL STRUCTURE, EBIT-EPS ANALYSIS

The basic objective of financial management is to design an appropriate capital structure which
can provide the highest wealth i.e., highest MPS, which in turn depends on EPS. EPS measures
a firm’s performance for the investors. The level of EBIT varies from year to year and
represents the success of a firm’s operation. EBIT-EPS analysis is a vital tool for designing the
optimal capital structure of a firm. The objective of this analysis is to find the EBIT level
that will equate EPS regardless of the financial plan chosen.

Advantages of EBIT-EPS Analysis

1. Financial Planning: Use of EBIT‐EPS analysis is indispensable for determining sources

of funds. In case of financial planning the objective of the firm lies in maximizing EPS.
EBIT‐ EPS analysis evaluates the alternatives and finds the level of EBIT that
maximizes EPS.
2. Comparative Analysis: EBIT‐EPS analysis is useful in evaluating the relative
efficiency of departments, product lines and markets. It identifies the EBIT earned by
these different departments, product lines and from various markets, which helps
financial planners rank them according to profitability and also assess the risk
associated with each.
3. Performance Evaluation: This analysis is useful in comparative evaluation of
performances of various sources of funds. It evaluates whether a fund obtained from a
source is used in a project that produces a rate of return higher than its cost.
4. Determining Optimum Mix: EBIT‐EPS analysis is advantageous in selecting the
optimum mix of debt and equity. By emphasizing on the relative value of EPS, this
analysis determines the optimum mix of debt and equity in the capital structure. It helps

73
 determine the alternative that gives the highest value of EPS as the most profitable
financing plan or the most profitable level of EBIT as the case may be.

Limitations of EBIT‐EPS Analysis:

1. Finance managers are very much interested in knowing the sensitivity of the earnings
per share with the changes in EBIT; this is clearly available with the help of EBIT‐EPS
analysis but this technique also suffers from certain limitations, as described below
2. No Consideration for Risk: Leverage increases the level of risk, but this technique
ignores the risk factor. When a corporation, on its borrowed capital, earns more than
the interest it has to pay on debt, any financial planning can be accepted irrespective of
risk. But in times of poor business the reverse of this situation arises—which attracts
high degree of risk. This aspect is not dealt in EBIT‐EPS analysis.
3. Contradictory Results: It gives a contradictory result where under different alternative
financing plans new equity shares are not taken into consideration. Even the comparison
becomes difficult if the number of alternatives increase and sometimes it also gives
erroneous result under such situation.
4. Over‐capitalization: This analysis cannot determine the state of over‐capitalization of a
firm. Beyond a certain point, additional capital cannot be employed to produce a return
in excess of the payments that must be made for its use. But this aspect is ignored in
EBIT‐EPS analysis

EBIT-EPS analysis is used as a tool to determine the optimal capital structure and to make a
tradeoff between risk and returns. the financial manager looks at the EPS is looked at different
levels of EBIT under different financing plans in order to gauge the risk and decide the level
of return targeted.

The different levels of EBIT forecast indicate the kind of operating or business risk, the firm is
exposed to and reflects the kind of variability the company has in its sales revenue and the
degree of operating leverage it has employed.

Table 5.6: EBIT-EPS Analysis

Profitability of EBIT 2023(₹ cr) 2022(₹ cr) 2021(₹ cr)

EBIT 23944 18934 15523
Less: interest 0 0 0

74
 PBT 24677 19830 17164
Exceptional items 73 0 0
less: tax -5997 -4772 -4133
PAT 18753 15058 13031
Interim + proposed dividends
ordinary dividends 15837 14172 13230
special dividends 3418
EPS 15.15 12.22 10.59
DPS 12.75 11.5 10.75
P/E ratio 15.09 12.22 10.59
MPS 192.3975 140.53 113.8425

The firm is able to maximize the earnings per share when it uses debt financing. Though the
rate of preference dividend is equal to the rate of interest , EPS is high in case of debt financing
because interest charges are tax deductible while preference dividend are not . With increasing
levels of EBIT, EPS will increase at a faster rate with a high degree of leverage.

Chart 5.4: EBIT-EPS Analysis

200
180
160
140
120
100
80
60
40
20
0
EPS DPS MPS
2023(₹ cr ) 2022(₹ cr) 2021(₹ cr)

Thus, the analysis of the different types of capital structure and the effect of leverage on the
expected EPS and eventually MPS will provide a useful guide to selection of a particular level
of debt financing.

75
LEVERAGE

Leverage refers to the use of debt (borrowed funds) to amplify returns from an investment or
project.

• Investors use leverage to multiply their buying power in the market.

• Companies use leverage to finance their assets: instead of issuing stock to raise capital,
companies can use debt to invest in business operations in an attempt to increase
shareholder value.

There are basically two types of leverages, Operating leverage, and financial leverage. The
leverage associated with the employment of fixed cost assets is referred to as operating
leverage, while the leverage resulting from the use of fixed cost/return source of funds is known
as financial leverage. In addition to these two kinds of leverages, one could always compute
‘Combined leverage’ to determine the combined effect of the leverages.

76
 1. Financial Leverage

Financial leverage is defined as the proportion of debt that is part of the total capital of the firm.
It is also known as capital gearing. A firm having a high level of debt is called a highly levered
firm while a firm having a lower ratio of debt is known as a low levered firm.

Financial leverage is the amount of debt that an entity uses to buy more assets. The aim of the
financial leverage is to increase the revenue available for equity shareholders using the fixed
cost funds. The financial leverage is used to magnify the shareholder’s earnings. Financing the
firm’s assets is a very crucial problem in every business and as general rule there should be
proper mix of debt and equity capital.

The importance of financial leverage:

1.It helps the financial manager to design an optimum capital structure. The optimum capital
structure implies that combination of debt and equity at which overall cost of capital is
minimum and value of the firm is maximum.

2. It increases earning per share (EPS) as well as financial risk.

3. A high financial leverage indicates existence of high financial fixed costs and high financial
risk. 4. It helps to bring balance between financial risk and return in the capital structure.

5. It shows the excess on return on investment over the fixed cost on the use of the funds.

6. It is an important tool in the hands of the finance manager while determining the amount of
debt in the capital structure of the firm

Financial leverage = Earnings before interest

Earnings before tax

FL = EBIT

EBT

77
 Table 5.7: Financial Leverage

Year EBIT (₹ cr) EBT (₹ cr) Ratio(times)

2023 24750.41 24374.36 1.015428097
2022 19829.53 19530.87 1.01529169
2021 17164.19 16839.79 1.019263898

From the above table it is understood that during the study period (2021-2023) the financial
leverage remains constant 1.01 times.

It reveals that 1% change in EBIT results in 1.01% change in earnings per share. The
leverage will have adverse impact on earnings if the firm suffers losses because fixed cost
security will magnify the loss.

2. Operating Leverage

There are two major classifications of costs in the organisation.

They are-

(a) Fixed cost

(b) Variable cost. (High operating leverage)

Importance of Operating Leverage:

1.It gives an idea about the impact of changes in sales on the operating income of the firm.

2. High degree of operating leverage magnifies the effect on EBIT for a small change in the
sales volume.

3. High degree of operating leverage indicates increase in operating profit or EBIT.

78
 4. High operating leverage results from the existence of a higher amount of fixed costs in
the total cost structure of a firm which makes the margin of safety low.

5. High operating leverage indicates higher amount of sales required to reach break-even point.

6. Higher fixed operating cost in the total cost structure of a firm promotes higher operating
leverage and its operating risk.

7. A lower operating leverage gives enough cushion to the firm by providing a high margin of
safety against variation in sales.

The operating leverage has a bearing on fixed costs. There is a tendency of the profits to
change, if the firm employs more of fixed costs in its production process, greater will be the
operating cost irrespective of the size of the production. The operating leverage will be at a low
degree when fixed costs are less in the production process.

Operating leverage shows the ability of a firm to use fixed operating cost to increase the effect
of change in sales on its operating profits. It shows the relationship between the changes in
sales and the charges in fixed operating income. Thus, the operating leverage has impact mainly

on fixed cost, variable cost and contribution. It indicates the effect of a change in sales revenue
on the operating profit (EBIT). Higher the operating leverage indicates higher the amount of
fixed cost and reduces the operating profit and increases the business risks.

Operating leverage = Contribution

EBIT

Contribution = Sales – Variable cost

Table 5.8: Operating Leverage

Year contribution (₹ cr) EBIT (₹ cr) Ratio (times)

2023 35125.64 24750.41 1.419194268

2022 29872.78 19829.53 1.506479478

2021 24262.28 17164.19 1.413540633

79
 From the above table it is understood that during the study period (2024-2023), the
operating leverage almost remains same. The operating leverage is high in the year 2022 with
1.50 times and low in the year 2021 with 1.41 times.

The fixed cost remains same and so increase in contribution results in corresponding
increase in EBIT. It reveals that % change in EBIT results in % change in sales.

3. Combined Leverage

This leverage shows the relationship between a change in sales and the corresponding variation
in taxable income. If the management feels that a certain percentage change in sales would
result in percentage change to taxable income, they would like to know the level or degree of
change and hence they adopt this leverage.

Thus, degree of leverage is adopted to forecast the future study of sales levels and resultant
increase/decrease in taxable income. This degree establishes the relationship between
contribution and taxable income.

Both financial and operating leverage magnify the revenue of the firm. Operating leverage
affects the income which is the result of production. On the other hand, the financial leverage
is the result of financial decisions. The composite leverage focuses attention on the entire
income of the concern. The risk factor should be properly assessed by the management before
using the composite leverage. The high financial leverage may be offset against low operating
leverage or vice-versa.

Importance of Combined Leverage:

1.It indicates the effect that changes in sales will have on EPS.

2. It shows the combined effect of operating leverage and financial leverage.

3. A combination of high operating leverage and a high financial leverage is very risky situation
because the combined effect of the two leverages is a multiple of these two leverages.

80
 4. A combination of high operating leverage and a low financial leverage indicates that the
management should be careful as the high risk involved in the former is balanced by the later.

5. A combination of low operating leverage and a high financial leverage gives a better situation
for maximising return and minimising risk factor, because keeping the operating leverage at
low-rate full advantage of debt financing can be taken to maximise return. In this situation the
firm reaches its BEP at a low level of sales with minimum business risk.

6. A combination of low operating leverage and low financial leverage indicates that the firm
losses profitable opportunities.

Combined leverage = Operating leverage * Financial leverage.

CL = Contribution

EBT

Table 5.9: Combined Leverage

Year OL (times) FL (times) CL (times)

2023 1.42 1.01 1.43

2022 1.5 1.01 1.52

2021 1.41 1.02 1.44

From the above table it is understood that during the study period (2021-2023), there is no
much difference in the combined leverage.

This is because the financial leverage and operating leverage does not show much
difference during the study period. Combined leverage is high in the year 2022 with 1.52
times and low in the year 2023 with 1.43 times. It reveals that % change in EPS results in
% change in sales.

81
 CHAPTER – 6
SUMMARY OF FINDINGS,
SUGGESTIONS AND CONCLUSION

82
FINDINGS

1. We can see that has the amount of debt financing increasing the capital mix the
WACC i.e. overall cost of capital (Ko) is reducing. More debt is cheaper because of
the ability to deduct interest and lower taxes.
2. Thus, the maximum value under the net income approach is with 100% debt
financing.
3. Increase in the EBIT and value of the firm which has direct relationship with the
capital structure and there is also increase in the financial performance with increase
in the EBIT.

4. Under NOI approach the company seeks financing that is the easiest and quickest to
secure. Hence there is a constant cost of equity. Increase in debt will increase the risk
perception of equity shareholders resulting in an increase in cost of equity (Ke).

5. A company using the net operating income approach sees no correlation between debt
or equity financing and company value.

6. As per Traditional approach the value of the firm increases and cost of firm decreases
with increase in the proportion of debt up to a certain level and their exist a combination
of debt and equity which is optimum.
7. The firm is able to maximize the earnings per share when it uses debt financing.
Though the rate of preference dividend is equal to the rate of interest, EPS is high in
case of debt financing because interest charges are tax deductible while preference
dividend are not.
8. With increasing levels of EBIT, EPS will increase at a faster rate with a high degree of
leverage.
9. The leverages of ITC Ltd almost remain constant throughout the study period 2021-
2023. The capital structure ratios show a satisfactory position while comparing the
same to the Ideal Ratio.
10. In financial leverage It reveals that 1% change in EBIT results in 1.01% change in
earnings per share, in operating leverage % change in EBIT results in % change in
sales and in financial leverage % change in EPS results in % change in sales.

83
 11. ITC Ltd.'s capital structure is characterized by a prudent mix of equity and debt, with
a relatively low debt-to-equity ratio. This conservative approach minimizes financial
risk and maintains financial flexibility.
12. A significant portion of ITC’s capital is financed through equity. This strong equity
base reduces the reliance on debt, lowering interest obligations and enhancing the
company's ability to leverage growth opportunities without incurring substantial
financial costs.
13. The weighted average cost of capital (WACC) for ITC is relatively low, given the low
cost of debt and efficient use of equity financing. This facilitates investments in
profitable ventures, enhancing overall financial performance.
14. The company’s capital structure helps mitigate financial risks. Low leverage reduces
the risk of bankruptcy, and the high equity base provides a cushion against market
volatilities and economic downturns.

SUGGESTION

• The company should take suitable steps to improve its financial performance. It should
apply tools, techniques and new technologies to increase its profitability.
• The firm should attain the optimal Capital structure to maximize the value of company
and wealth of its shareholders by issuing required Debentures or Shares.
• The Long-Term Borrowing is nil in the financial statements which shows there is no
tax leverage. Hence the company should take the advantage of tax leverage.

CONCLUSION

The company’s overall position is at a good position. Particularly the current year’s position is
well due to a raise in the profit than the previous year. It’s better for the organization to diversify
the funds to different sectors in the present market scenario. ITC Ltd is showing fluctuations
in its profitability position in the past few years, which is concluded with the financial statement
analysis.

The analysis of capital structure highlighted that the company’s operating performance is in
efficient manner and the sales during the study period shows increasing trend and it is expected
sales can increase in forthcoming years. The study reveals that the financial performance of

84
 ITC Ltd is in satisfactory position. The study concluded that ITC Ltd.’s capital structure
shows that maximum finance is raised through its owner’s capital and the contribution of debt
is reduced over the years. It is suggested that it can increase its debt finance in capital structure
to take the advantage of financial leverage.

ITC Ltd.'s capital structure has been a cornerstone of its robust financial performance. The
company's prudent mix of equity and debt has ensured financial stability, minimized risk, and
provided the flexibility to capitalize on growth opportunities. By maintaining a conservative
leverage ratio and focusing on equity financing, ITC has achieved a favourable balance that
supports sustained profitability and market valuation.

Preparation of financial statements enables the government to find out whether the organization
is following various rules and regulations or not. These statements provide a base for regulation
of the company. It is not only helpful to analyse the present financial position it also enables to
study the future prospects and the expansion plans of the concern. The financial health plays a
significant role in the successful functioning of a firm. The analysis and interpretation of
financial statement is essential to bring out the mystery behind the figures in the financial
statement. Financial analysis is an attempt to determine the significance and meaning of the
financial statement data so that forecast may be made of the future earnings ability to pay
interest and debt maturities and profitability of sound dividend policies. The estimated
discriminate function could be of great use for the management in ascertaining the financial
health. This study would also useful to the company’s policy makers and researchers for
appraising financial health.

Hence there is a significant influence of ITC Ltd.'s capital structure on its financial
performance.

85
APPENDIX

86
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 25. https://sist.sathyabama.ac.in/sist_naac/documents/1.3.4/mba-mba-batchno-98.pdf
https://www.icai.org/post/bos-knowledge-portal Study Material - Paper-8: Financial
Management & Economics for Finance - Section-A: Financial Management

Websites

1. www.itcportal.com

2. www.investopedia.com

3. www.studyfinance.com

4. www.wikipedia.org

5. https://scholar.google.com

6. https://www.icai.org

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