Determinants of Capital Structure in Pakistan

Abstract

In financial management, capital structure is a systematic method for financing the operating activities through equity, debt or combination of the both. It is also referred to as a degree of debt in the capital arrangement of a business. However, it is a significant and an important decision for corporate firms. The business operations are significantly dependent on managing the cost of capital which is determined through capital structure of an organization. Hence, the objective of designing capital structure strategy is for reducing the borrowing cost and maximizing returns from acquired capital which has been acquired from various resources.The main purpose of our study is to empirically investigate the determinants of capital structure in the context of Pakistan. The balanced panel data set of our study is constructed using annual reports for 30 non-financial firms listed at Pakistan Stock Exchange for the period 2008 to 2017. We utilized Ordinary Least Squares estimation technique to estimate the econometric model. The empirical findings present that profitability and tangibility are key determinants for capital structure of firms in Pakistan. Moreover, tangibility has positive association with leverage. It shows that creditors are attracted by firms having high tangible assets. It is due to sureness for reclamation of their loans. On the other hand, profitability showed negative association with leverage. It implies that more profitable firms do not take external debts due to availability of cash reserves that they created from profits. Further, our study suggests the relevance of theories namely trade-off static theory and pecking order theory for identifying the determinants of capital structure in Pakistan.

Keywords: Capital structure, Firm-specific factors, Ordinary Least Squares (OLS).

JEL Codes: D22, F65