The Key Determinants of Capital Structure since the Global Financial Crisis - Literature review Example

?Undertake a Review of the Current Literature to Identify the Key Determinants of Capital Structure since the Global Financial Crisis Table of Contents Table of Contents 2 Introduction 3 Literature Review 3 Capital Structure is an Important Facilitator for Financial Decisions 3 Determinants of Capital Structure since the Global Financial Crisis 4 4 Conclusion 9 References 10 Introduction Capital structure is an important element with regard to financial management of an organisation. It reveals the magnitude, nature along with the distribution on the basis of which financial funds are allocated in a particular organisation. The notion of capital structure signifies the assets and the liabilities of an organisation. In this regard, every organisation possesses a capital structure in accordance with which income along with expenses is determined. It is duly considered to be an important aspect and every organisation is required to consider it in order to make sure that the operations are conducted in an efficient manner. Moreover, Miller (2003) signified that capital structure impose direct impact in the mission and also in the operations of an organisation. A proper assessment and maintenance of capital will eventually facilitate in managing the financial operations of an organisation effectively (Miller, 2003). With this concern, this paper intends to discuss about identifying the major determinants of the capital structure impacting business organisations since the worldwide financial crisis. Literature Review Capital Structure is an Important Facilitator for Financial Decisions According to Baker & Wurgler (2002), capital structure plays a decisive role in making effective financial decisions. The authors affirmed that management of business organisations utilise capital structure in making better exploitation of accessible financial recourses. It also assists in having a proper assessment and estimating their shares in the business markets. Additionally, the management with the assistance of capital structure is capable to determine the quantity of leverage that it possesses in the marketplace and also in comparison with other organisations (Mahmud & et. al., 2009; Baker & Wurgler, 2002). Baker & Martin (2011) noted that capital structure is an important instrument of making effective decisions in relation to various significant aspects that include dividend decisions, management decision making along with financial decisions among others. According to Baker & Martin (2011), three important theories of capital structure encompass the ‘market timing theory’, the ‘trade-off theory’ and the ‘pecking order theory’. In this regard, the ‘trade-off theory’ is a model on the basis of which tax benefits and liabilities are calculated to maintain a stable balance of financial considerations of business organisations. The ‘pecking order theory’ provides important and valuable information, aiding in identifying problems, so that the management of organisations can adopt appropriate measures to mitigate such problems. The ‘market timing theory’ is a model, which assists management of business organisations in ascertaining the appropriate time of issuing shares in the market. In this regard, Baker & Martin (2011) have also implied that management of business organisations with the assistance of these theories will be facilitated with the opportunity of making effective investment decisions and attaining superior competitive position (Baker & Martin, 2011; Laugi & Sorin, 2009). Determinants of Capital Structure since the Global Financial Crisis According to Bauer (2004), the capital structure of business organisations mainly comprise various vital factors such as size, tangibility, profitability, industry classification, tax and growth opportunity among others. It can be affirmed that these vital factors associated with the notion of capital structure impose considerable impact upon the financial transactions along with the operations of an organisation in an immerse manner. Additionally, the assessment of these factors facilitates the stakeholders of an organisation in acquiring adequate information about the performances and future growth opportunities (Bauer, 2004). It is worth mentioning that, the capital structure of business organisations varies on the basis of their respective operations (Ehrhardt, 2010). As stated by Ehrhardt (2010), business operations of organisations have direct influence upon their respective capital structure. It can be apparently observed that multinational corporations (MNCs) are determined to avail better business opportunities and additionally, they also face different sorts of risks as compared to the domestic firms operating in diverse countries. In this regard, the capital structure of MNCs can be viewed quite different from domestic firms due to various factors such as structured business process, integrated operations, diversifies business functions and advanced technologies. The risks that the MNCs mainly face are political risks, risks associated with cultural along with language differences and currency fluctuations. In this regard, Ehrhardt (2010) has signified that since the global financial crisis, the management of MNCs has developed an efficient process on the basis of which the aspect of capital structure will be analysed and assessed. This would certainly enable the MNCs to conduct their respective operations in a profitable and also in a sustainable manner in future (Ehrhardt, 2010; Mishra & Tannous, 2008). According to Kassim & et. al. (2013), the crisis situations have adversely affected the overall performances of business organisations on a global context. In this regard, it can be affirmed that the Board of Directors should play an effective role towards the development of an effective capital structure. Moreover, the board members are also entrusted with the responsibility of monitoring and most vitally ensuring that the operational functions are executed in an appropriate manner. Kassim & et. al. (2013) also affirmed that strategic decisions made by the Board of Directors broadly influence the entire performances of an organisation. In this context, capital structure has been recognised to play a valuable role in the process of strategic implementation (Kassim & et. al., 2013). According to Mostarac & Petrovic (2013), financial along with economic crisis conditions have unfavourably affected the macroeconomic conditions of different nations. Respectively, the performance of business organisations is also affected at large. Contextually, the behaviour and the decision-making procedure have also changed in relation to determine effective capital structure. It is often viewed that during financial crisis or recession period, the operations of an organisation are seemed to be affected with decreased income, diminished tax advantage and uneven cash flow. In this regard, the capital structure of business organisations should be adjusted on the basis of microenvironment conditions that reflect tax benefits along with bankruptcy costs (Mostarac & Petrovic, 2013; Korajczyk & Levy, 2002). As per the viewpoint of Joeveer (2012), institutional factor is regarded as the other important determinant of capital structure. The institutional factors fundamentally include social, political along with economic factors, on the basis of which effective policies and plans are formulated in different countries. In this regard, MNCs operating in other countries are required to formulate their strategies in accordance with institutional factors. Respectively, the capital structure of MNCs are seemed to be directly or indirectly affected by institutional factors. The different institutional factors are to be considered while formulating effective capital structure in order to ensure that MNCs are able to perform their operations in a profitable manner during crisis situations (Joeveer, 2012; Panteghini, 2006). According to Li & Tam (2011), transaction cost is identified to be an important determinant of capital structure since the global financial crisis. Transactional cost is often regarded as a vital consideration in relation to marketing of equity shares belonging to an organisation and in balancing its capital structure after the occurrence of any crisis situation Li & Tam (2011) affirmed that the lower transaction costs assist in rebalancing capital structure efficiently and vice versa (Li & Tam, 2011). In this similar context, Rehman & Rehman (2011) noted that credit supply conditions are considered as an important factor accountable for making effective financial decisions. Respectively, the demand along with supply of financial assets play an effective role in the development of an appropriate capital structure, facilitating organisations to perform their respective operations effectively in favourable as along with unfavourable business conditions (Jackson, 2013; Madura, 2012; Rehman & Rehman, 2011). As stated by Owolabi & Inyang (2013), the determinants including growth of capital market, cultural setting, political risks, monetary along with fiscal policies are the major ones that require to be taken into concern for developing an effective capital structure after the crisis situations. In this regard, organisations managing the aforementioned determinants will be facilitated with the opportunity of developing an efficient capital, ensuring that they are able to perform their respective operational functions with better profitability and efficiency (Owolabi & Inyang, 2013). The other imperative determinant of capital structure since the global financial crisis can be recognised as equity capital (Mokhova, 2011). According to Mokhova (2011), financial crisis has affected the equity capital by a certain degree owing to the reason of lower investment, minimised interest rates and less financial liquidity among others. In this respect, the equity capital should be managed in a proficient manner with the objective of ensuring that capital structure is developed appropriately. Consequently, an organisation will be able to perform its business operations successfully with a better flow of capital (Jang, 2012; Mayrhofer, 2012; Mokhova, 2011). Conclusion From the above analysis it can be comprehended that MNCs operating in different countries under diverse economic, political and cultural conditions must develop a more flexible capital structure in order to ensure that they are able to perform their business operations successfully. In this regard, MNCs are required to consider different determinants of capital structure such as business operations, equity capital, monetary policies, macroeconomic and institutional factors among others in order to formulate a better arrangement, so that financial earnings and expenses are met in a balanced manner as desired. References Baker, M. & Wurgler, J., 2002. 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Board Effectiveness And Company Performance: Assessing The Mediating Role Of Capital Structure Decisions. International Journal of Business and Society, Vol. 14 No. 2, pp. 319-338. Korajczyk, R. A. & Levy, A., 2002. Capital Structure Choice: Macroeconomic Conditions and ?nancial Constraints. Journal of Financial Economic, Vol. 68, pp. 75-109. Li, A. Y. F. & Tam, L. H. K., 2011. Transaction Costs and Capital-Structure Decisions: Evidence from International Comparisons. University of Macau, pp. 1-46. Laugi, P. & Sorin, V., 2009. A Review of the Capital Structure Theories. Financial Banks and Accountancy, pp. 315-320. Mahmud, M. & et. al., 2009. Economic Factors Influencing Corporate Capital Structure in Three Asian Countries: Evidence from Japan, Malaysia and Pakistan. Indus Journal of Management & Social Sciences, Vol. 3, No. 1, pp. 9-17. Madura, J., 2012. International Financial Management. Cengage Learning. Mayrhofer, U., 2012. Management of Multinational Companies: A French Perspective. Palgrave Macmillan. Miller, C., 2003. Understanding Nonprofit Capital Structure. The Nonprofit Quarterly, Vol. 10, Iss. 1, pp. 1-8. Mishra, D. & Tannous, G., 2008. The Long-Term Debt Ratios of US Multinationals and the Securities Laws in the Countries of Subsidiaries. Papers, pp. 1-39. Mokhova, N., 2011. The Management of Equity Capital in the Crisis and Post-Crisis Periods. Economics, Management, and Financial Management, Vol. 6, No. 1, pp. 1020-1029. Mostarac, E. & Petrovic, S., 2013. Determinants of Capital Structure of Croatian Enterprises before and During the Financial Crisis. UTMS Journal of Economics, Vol. 4, No. 2, pp. 153-162. Panteghini, P. M., 2006. The Capital Structure of Multinational Companies under Tax Competition. CESIFO Working Paper No. 1721, pp. 1-36. Rehman, S. U. & Rehman, M. U., 2011. Revisiting Determinants of Capital Structure: Evidence and Arguments. 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