Impact of Capital Structure on Firms’ Financial Performance: Evidence from Pakistan

Abstract

This research examines the impact of capital structure on firms’ financial performance in Pakistan of top 100 consecutive companies in Karachi Stock Exchange for a period of four years from 2006 to 2009. Exponential generalized least square regression is used to test the relationship between capital structure and firms’ financial performance. The results show that all the three variables of capital structure, Current Liabilities to Total Asset, Long Term Liabilities to Total Asset, Total Liabilities to Total Assets, negatively impacts the Earning before Interest and Taxes, Return on Assets, Earning per Share and Net Profit Margin whereas Price Earning ratio shows negative relationship with Current Liabilities to Total Asset and positive relationship is found with Long Term Liabilities to Total Asset where the relationship is insignificant with , Total Liabilities to Total Assets. The results also indicate that Return on Equity has an insignificant impact on Current Liabilities to Total Asset and Total Liabilities to Total Assets but a positive relationship exists with Long Term Liabilities to Total Asset. These results, in general, lead to the conclusion that capital structure choice is an important determinant of financial performance of firms. This is the first study in Pakistan examining the relationship between firms’ performance and capital structure of top 100 consecutive companies in Karachi Stock Exchange for a period of four years.

Keywords: Capital Structure, Firms’ Performance, Performance Measures, Profit, Pakistan.