Research Project: Capital Structure and Financial Sustainability

This research project investigates the relationship between a company's capital structure and its financial sustainability. The study explores how different components of capital structure, including debt and equity, affect a company's performance and its ability to mitigate insolvency risk. The paper begins with an introduction to the topic, followed by a background study that establishes the importance of capital structure in financial sustainability. A literature review examines relevant theories, such as the Pecking Order Theory and the Modigliani-Miller Theory, and discusses the impact of debt and retained earnings on financial sustainability. The methodology section outlines the research approach, design, data collection methods, and analysis plan. The data analysis and discussion chapter presents the findings, including frequency analysis, correlation analysis, and secondary analysis of corporate performance. The research concludes with recommendations for companies to optimize their capital structure for enhanced financial sustainability and suggests areas for future research. The paper aims to provide insights into how companies can ensure financial sustainability through strategic capital structure decisions, with a focus on debt-to-equity ratios and the optimal balance of financing options.

Running head: RESEARCH PROJECT
Relationship between Proper Capital Structure and Financial Sustainability of a company
Name of the Student:
Name of the University:
Author’s Note:

1
RESEARCH PROJECT
Acknowledgement
The completion of the paper would not have been possible without the guidance and assistance
of certain personnel in my life and therefore I would like to show them my gratitude. I would
therefore like to thank my parents and guardians who have been there by my side during the
completion of the research mentally and physically. I would even like to thank my professors for
assisting me and resolving all my queries so that the task was completed within the desired time
period. I would even like to show my gratitude to my fellow classmates without whom the
completion of the research would have been difficult.
Thank You

2
RESEARCH PROJECT
Abstract
This paper is related to having an understanding of the relationship among capital structure of a
company and their financial sustainability. It is seen that in the introduction of the paper an idea
about the topic has been provided with the help of which the paper has moved forward. The
background of the paper has created an idea about the relationship with the help of which the
objectives of the paper can be constructed. In this manner the literature review has been framed
with the help of which the ideology of the previous researchers have been understood. In this
manner the methodology of the paper has been created which has been helpful in the creation of
the data analysis process. The analysis that has been undertaken has been able to explain that
capital structure and financial sustainability has a crucial role to play in the development of the
performance of the companies and all these aspects have been extensively explained in this
paper.

3
RESEARCH PROJECT
Table of Contents
Chapter 1: Introduction....................................................................................................................6
1.1 Background of the Study.......................................................................................................6
1.2 Statement of the problem.......................................................................................................8
1.3 Research Aim.........................................................................................................................8
1.4 Research Objectives...............................................................................................................9
1.5 Research Question.................................................................................................................9
Chapter 2: Literature Review.........................................................................................................10
2.1 Introduction..........................................................................................................................10
2.2 Pecking Order Theory..........................................................................................................10
2.3 Modigliani-Miller Theory....................................................................................................12
2.4 Debt Capital and Financial Sustainability...........................................................................12
2.5 Retained Earnings and Financial Sustainability..................................................................14
2.6 Literature Gap......................................................................................................................15
2.7 Summary of the Literature...................................................................................................16
2.8 Conceptual Framework........................................................................................................16
Chapter 3: Research Methodology................................................................................................18
3.1 Introduction..........................................................................................................................18
3.2 Research Philosophy............................................................................................................18
3.3 Research Approach..............................................................................................................19

4
RESEARCH PROJECT
3.4 Research Design..................................................................................................................19
3.5 Kind of data used.................................................................................................................20
3.6 Process of data collection....................................................................................................20
3.7 Sample and Sample Size......................................................................................................21
3.8 Data Analysis Plan...............................................................................................................21
3.9 Ethical Consideration...........................................................................................................21
Chapter 4: Data Analysis and Discussion......................................................................................22
4.1 Introduction..........................................................................................................................22
4.2 Frequency Analysis.............................................................................................................22
4.3 Correlation Analysis............................................................................................................39
4.4 Secondary Analysis.............................................................................................................43
4.4.1 Corporate Performance.................................................................................................43
4.4.2 Performance Measures..................................................................................................44
4.5 Discussion of the overall result............................................................................................45
Chapter 5: Conclusion, Recommendation and Future Work.........................................................47
5.1 Conclusion...........................................................................................................................47
5.2 Addressing the objectives of the paper................................................................................48
5.3 Recommendation.................................................................................................................49
5.4 Future Work.........................................................................................................................49
Reference List................................................................................................................................50

5
RESEARCH PROJECT
Appendix........................................................................................................................................55
Questionnaire.............................................................................................................................55

6
RESEARCH PROJECT
Chapter 1: Introduction
The capital structure theory and their relationship with the value of the company and the
performance of the companies has been a key factor in the process of corporate finance.
Przychodzen and Przychodzen, (2015) have debated that at the time of the market that is perfect
in nature that predicts the fact that with the absence of bankruptcy costs, the capital market is
known to be smooth. This has been the factor which states that the relationship among effective
capital structure and financial sustainability has been considered so that their effect on a
company can be understood in a better way.
Microfinance is looked upon the financial services that is offered to the poor. Martínez‐
Ferrero and Frías‐Aceituno, (2015) has explained microfinance as the financial services like the
credit fund transfer, remittance, savings etc to the low enterprises and individuals. The
composition of the capital structure is vital for the purpose of financial sustainability. It is due to
the fact that better process of decisions related to the capital structure would mitigate the risk,
enhance financial flexibility and encourage long term solvency that is required in order to
provide sustainable services related to finance to the ones who are in need of it.
1.1 Background of the Study
Saeidi et al., (2014) explained that capital structure has an essential function to play in the
current time period in the development of financial sustainability. The effectiveness of the capital
structure of a firm is considered to be the financial sustainability of the company as well. Dumay,
(2016) cited that the enhancement and the construction of capital and the assessment of the
performance of the firms have been key areas that have been looked upon in finance. The degree
of capital structure that is present within the organization delivers the effectiveness of the

7
RESEARCH PROJECT
services that are initiated by the companies in accordance to their finance and hence this has been
significant in the creation of financial sustainability. Therefore, the evaluation of their
relationship is essential by taking assistance of which the real value of a company can be
highlighted.
Capital structure is known to be the process of how a company finances their entire
activities and development by making use of various kinds of resources. Andriof et al., (2017)
explained capital structure as various options that are utilised by the companies in order to
finance their assets. The capital structure of the companies are therefore a blend of the issue of
equity and finance. Schepens, (2016) discovered that a company has three essential capital
elements and these are inclusive of the issue of new shares, retained earnings and the borrowing
with the help of the debt instruments.
Debt is known to be the money that is borrowed. It is known to be any kind of agreement
among the borrower and the financier. The total amount that is borrowed along with the interest
is generally paid back to the financiers within a specified time period as mentioned in the
agreement. Debt can be either long or short term. Short term debt is known to be the funds
needed for the purpose of finance for the day to day activities of a company (Nimtrakoon, 2015).
These funds get reimbursed within a year. Long term finance is generally acquired at the time
when the company purchase properties like real estate and this takes more than a year to pay
back.
Equity is known to be the money that is owned and invested by the shareholders. Equity
assists a company to receive funds without having any kind of debts. This explains that there are
no charges of interest, which has to be paid later on, but the shareholders anticipate a return out
of the profits in the form of capital gains and dividends (Ahlers et al., 2015). In case a company

8
RESEARCH PROJECT
suffers a loss, the shareholders have restricted liability, which states that the loss they would
incur would be the money they have invested in company.
At the time when a company gains additional capital with the help of the issue of shares,
it can be considered as an indication that the company has no additional cash flows and reserves
and this may lead to the undervaluation of the shares of the company (Bolton et al., 2015). At the
time when the investments are financed with the help of external equity, the prices of shares of
the company may in some cases fall. This suggest that it is important to construct their reserves
so that better proportion of the demand for capital can be from the internal sources. These have
been the factors with respect to which the analysis with respect to this topic would be taken into
consideration with the help of which the outcome with regards to this topic can be ascertained.
1.2 Statement of the problem
The problems that are related to the topic has been the factor due to which research in
accordance to this topic has been undertaken. It is seen that the maintenance of capital structure
is one of the key factors that is monitored by the companies in order to have a clear
understanding of the financial sustainability of the company. Financial sustainability is an
essential factor when the companies are looking forward to make profit and maintain their
competitive edge in the market (Bocken, 2015). There are several factors that have an impact on
the capital structure of the companies and this affects financial sustainability. Therefore, analysis
of the same needs to be undertaken in order to have an idea about the measures that need to be
undertaken in order to enhance the performance of the companies.

9
RESEARCH PROJECT
1.3 Research Aim
The goal of the current research has been to determine how the companies can be certain
that financial sustainability is possible with the assistance of the incorporation of the capital
structure.
1.4 Research Objectives
The objectives that will be addressed in this paper has been highlighted as follows:
 To ascertain how an organization can mitigate the insolvency risk with the assistance of
the incorporation of the capital structure with the assistance of equity and debt ratio
 To ascertain the ideal debt to equity ratio a firm needs to maintain in order to live in the
market by depending on the type of debt and equity the firm makes use of
1.5 Research Question
The questions associated to this topic are:
Q1. How does a firm mitigate the insolvency risk by incorporating the suitable capital structure
with the assistance of the debt to equity ratio?
Q2. How can the management of a firm make sure that the debt that is undertaken for the
purpose of financing the operational functions would be helpful in gaining the maximum amount
of returns?

10
RESEARCH PROJECT
Chapter 2: Literature Review
2.1 Introduction
This section of the paper will highlight the areas and the aspects that have been explained
by other scholars and researchers who have undertaken research on this topic. Capital structure
and financial sustainability is a key topic and therefore there have been many researches were
undertaken earlier. Many researchers have revealed various kinds of aspects related to this topic
and therefore the results that have been addressed earlier will be taken into consideration and
thereafter fruitful results will be revealed so that effective results can be gathered.
The data that is collected is related to how any kind of decisions in association to the
capital structure is taken on the basis of the cash flow and not being dependent on the degree of
income. The cash flow in relation to the analysis of the debt ascertains the capability of a firm to
take finance. The process of framing the decisions in accordance to the capability of the firm to
take borrowings, which is undertaken by taking assistance of the profit attained by the firm that
is inclusive of the risks as it is known that the future of the firm is difficult to forecast (DeAngelo
& Stulz, 2015). The companies may even undergo various problems at various time periods and
this has been undertaken in order to finance the debts that the companies take and this may lead
to insolvency as well. The procedure of cash flow is helpful to an organization in order to

11
RESEARCH PROJECT
understand their financial environment. This permits the organizations to assess their extent of
debts, which the companies may not exceed.
2.2 Pecking Order Theory
This theory tries to address that the organizations have distinct preferences with respect
to their capital that is used in order to undertake finance for their activities. It even addresses that
data that are asymmetric have an influence on the choices among the internal and external
finances and among the problems that are associated to debt and equity as the management have
knowledge about the prospects of the organization and have understanding of their risks and
values from the investors who are external.
With the availability of the data, this theory even highlights the fact that the organization
would even make use of the retained earnings but the debts that are issued once can show that the
earnings can be exhausted (Brunnermeier & Sannikov, 2014). The issuance of the new shares of
equity will be considered as the last resort. This explains than in case a firm internally finances
themselves, it explains the fact that the firm is financially stable. In case the companies finance
themselves with the support of the debt, then this explains that an organization is able to
accomplish their commitments. In case the company finances individually, with the assistance of
the issue of new shares, this is regarded to be a negative impact that the firm is not sustainable
financially as the company explains that their shares have been overvalued and therefore looks to
make money prior to the fall in the price of their shares.
This explains that companies that are sustainable financially do not essentially need to
rely so much on equity. This has been found with the help of certain researches that have
discovered negative relationship among profitability or financial sustainability and debt
financing and it is seen that there has been a positive relationship among their profitability,