Impact of Capital Structure Determinants on Pakistan’s Economy

Abstract

Capital Structure is said to be one of the controversial topics in field of economics and in financial management decisions on capital structure is considered very vital and decisive. It is generally defined as “way firm assets are financed through debt, hybrid securities or equity. Value of firm’s Capital Structure has always been burning issue. From management perspective capital structure is a very healthy mean to control the cost of capital. Different ways of financing its assets can be adopted by a company and the key objective is to attain the optimal capital structure where minimum cost of capital can be reached. Furthermore a firm can be levered or unlevered.Companies with no debt financing are called unlevered while companies go for debt financing is called levered. The behavior of firm financing can differ with regard to different sides and this had introduced different theories of capital structure.Miller and Modigliani(1958) irrelevance theory proposes that the value of firm is free of its capital structure under certain suppositions.It was considered as a founding work and its assumptions were unrealistic in nature which gave birth to some other theories such as pecking order theory (POT) and trade-off.

Different aspects of capital structure have been explained by these theories but on the other side empirical evidences are not every time backing these theories. Some professionals in finance believe that with the increase in leverage the market value of firm increases.This mainly shows that firm having more percentage of debt financing attains the optimal capital structure but surely this statement is rejected by other financial professionals. So these theories lead to controversy that what is the optimal capital structure point. Too much of study has been done on the this topic in developed countries and work of the researcher is to check the potential determinants in a different market. Moreover study that also the conclusions drawn from the several theoretical and empirical researches are effective for developing markets like Pakistan.