The Essay On Capital Structure's Impact On UK Pharmaceutical Companies.

Objective Question

Explain The Impact Of Capital Structure On Pharmaceutical Companies In Uk.

In this jet setting world of today where exceptional rivalry, survival is becoming the increasingly tough in the business market; thus the situation calls forthe necessity of making a decision, to choose the destiny of each firm. In this way, directors need to mull over the reasons that impact relationship while settling on a specific choice.

A firm management aims to benefit the owners or shareholders of the firm to the maximum. prudent financing decisions which would decrease its cost of capital and make a optimal  capital structure are of vital imporatnce.Now, what we mean by capital structure, simply stock and equity. Capital structure decision is the most crucial onein terms of returns to the various shareholders and stake owners  and this enhancesthe firms’ ability cpmpete throughout. Therefore the  major issue confronting managers of the day is how  minimise the its cost of capital and enhance return to businesses. This is the financial  manager’s tasl to make  efforts to chnnelise a particular combination of operation.

The companies are working in such an environment which is continuously enhancing and are also very competitive, so they have to compete nationally as well as internationally and expand their activities through new investments for survival. They need financial resources for investment. Decisions for financing in an institute are the most important decisions made by financial managers as far as they are considered as strategic decisions due to their effects on financial structure of companies and investors’ resources. In the current world, proper financing for increasing the profitability of companies and their survival is essential regarding the competitive market conditions.

The structure of capital as a associate of capital  and equity, and of different securities. In general, firms have avast choice regading this. An instance, firms can get lease, warrants, contracts, trade bonds and evenissue convertible bonds. Firms can also issue dozens of securities having a number of combinations to  create more market value (Abor, 2005). The use of debt leads to agency costs. This makes the capital structure costs rise.  (Jensen and Meckling, 1976). What pecking order hypothesis says is that nearly all firms are willing to give away equities when business market overvalues it (Myers, 1984; Chittenden et al., 1996). Managers decline to shares of issue at lower costs except that the financial worth is more than the probable present value of the growth opportunity . It seems thus, that managers favor the shareholders. Therefore, investors understandthat if a firm is  issung equity it si geberally offring overpriced shares. It can be concluded that only if there is no other resort for the owners awhen they need loans, is when they sell stocks and shares.(Abor, 2005).

Hypotheses

Thus, the higher the debt ratio, higher the interest rate will be. The risk here lies thatif the firm is going in losses then stockholders will fill up short fall, in order to avoid bankrupcy, but t is worth becauseit cvan lead to profit. However , the danger of shareholders’ wipeout remains if this does not work. (Azhagaiah and Gavoury, 2011).

The study presented  is to relate capital and profitability of UK’s pharmaceutical firms. Variables combine with financial makeup and the profitability of a studied firm, explainedand profitability theories are analysed. As the data is limited, a set of variables are employed six aspect. These are three ratios of short-term debt: total assets, long-term debt : total assets, total debt : total assets and, in addition, sales progresss, firm size, and gains (as per returns on equity).

The work is presented in the steps of  research objectives and their importance, the literature for the stuff on capital structure and its effect on revenues. After that comes step of examples used in the empirical analysis. After words, data is discussedseparately, along with statistics. Finally comes the conclusion and suggestions or, recommendations.

This study aims atfindig out the structure of capital and its relationship with profitability in listed pharmaceutical organizations in the UK. The main objectives are:

• To measure the profitability of the pharmaceutical companies in UK across 10 years.
• To measure the impact of long term debt on profits.
• To measure the impact of short term debt profits.
• To measurethe impact of total debt on the company’s gains.

• Does Short-term debt decrease productivity of the scheduled transaction definites
• Decrease a long term debt profitability of listed firms in the UK
• Does debt has a decreases profits of these firms in UK

As Ross, Westerfield and Jordan (2008) states “The word capital is- finances of a company, its assets comprising of equity, debt plus, any securities.” Jensen (1989) added that the capital structure as concerned with getting a solution to the disputes between shareholders and managers is based on the basis of gains. They are sensitive concerns and as decisions, are the ones that maximize returns for various departments. They also because bear an impact on the organisation such that make its ability rise for dealing with its cutting edge environment, Boodhoo (2009).

Equity is also recognised as company stock /shares. It is the financing that an organization receives into their operation from investors other than the external investors. Mallor, Barnes, Philip &Langland (1989), say-these financial commodities may have different forms like common share capital, preference share capital, finally reserve, options, warrants, and right to purchase stock or shares.

Forfeited shares are the shares in which the shareholder shares certain rights. This is as they could not fulfil obligations on their part. The right lost, makes him loose his right-on capital gains, and his ability to buy more stock. It means that when a shareholder loses his /her rights or membership, it is due to his default payment. However, the meaning of equity as per its kind is subjective. It means it is his ownership in any capital or asset, minus all the associated debts. For example, a vehicle, if has no outstanding debt, is his equity asset can be sold for ready cash.

Capital Structure

Debt financing means that the borrower pays the funds with extra charges called interest and loan origination fees. It does not lessen his stakeholder’s claiming the company.

According to Kara and Marques-Ibanez (2009) “debt adds up total public plus private loans. Thus, debts are liabilities but allow a number of companies to make large investments based on purchases under normal circumstances they could hardly do so. It allows permission to borrow provided it would be paid back usually with interest.

Forsberg (2004) claims that most companies use partial debt in the structure of capital investment because of the fact that interest comes down due to tax deducts. It is the cheapest class of money from outside sources. Debt may minimise agency costs. Harris and Raviv (1990): debt also offers as risky bases there is a possibility that creditor can take over the company.

However, the major disadvantage of debt financing lies in the fact that it increases the risk of bankruptcy. Its contribution in assets arrangement effects debt-holders who become key players in the structure of the definite. The more is the debt, the more is the possibility that they influence the corporate strategies. Debt financing also increases capital cost.

Modigliani and Miller (1958) talk of “capital structure irrelevance”. contoversial perspective that leverage does not just affect a firm’s value within a homogenous market, but also in capital markets.

Myers and Majluf (1984) state that profitable units are expected to use less debt:equity ratioas to those whichearnless. Sarkar and Zapatero (2003) state a positive bonding exists between leverage and profitability.

It  can be inferred that  a inflexibale uses debt by studying and deducing the shape of its tax structurepretty aggressively. Large, profitable firms with low distress costs, use debt very rarely. Product growth, low asset and market collateral, and planning act as factors for future payment and thus, for them conservative policy is persistent.

Hennessy and Whited (2005) devise a active structure with an mix of leverages, profit allocation, certain asset and all this, in the occupancy of the income tax factor, then  interest and corporate distributions.Some other factors counted are distress costs, and share flotation costs. The study finds empirical data aplicableto the sedentary trade-off afctor and also show that if there is no objective leverage ratio, thay can be highly on the saving scale.

Chiang et al., (2002) show that profits and firm capital are filling , studies a sample of 35 companies that are based in Hong Kong. Raheman et al., (2007) infers effect on the profits for firms (non financial), of Islamabad Stock Exchange.

Equity

Mendell, et al., (2006) enquires expenditure practices dealing in the forest products. He does so by studying the direct relationship of debt and taxes in a hypothetical situation,as regardsthe finance theory. As this theoretical correlation is tested well, and is used as a basis for findings like there is a negative wquationin between profits and debt, and there is a positive equationin between non-debt tax shields.Also, any kind of debt, causes a negative equation between the size of profits and itself.

Abor (2005) studies the same to to declare facts for the equation between essential structure of firms and their profits– of the Ghana Stock Exchange. A significant and positive relation was found between short-term debt equating to  total assets, including ROE, and a negative onefor long-term debt equation with total assets, with ROE.

Gill, et al., (2011) studiesfactsof the effect of capital that  are etched on the firm’s . he does so by studying profits, by analysingcapital structure in relation tothe gains of theAmerican companies, specifically those falling under service and manufacturing firms. A sample of272 American firms of New York Stock Exchange, was taken. The correlations were made,  regression analyses deduced and were used to somewhere predict things about the functions relating to firms’ gains and profitsalong with scope of capital structure. Practical results confirm how  a positive equationis there between short-term debt and total assets and also theprofitability,it also confirms the same for an equation between total debt : total assets and profitability. Thisresearchresults in a positive relation or equation between debt and  profitability, in the frims of this manufacturing industry.

According to Champion (1999), companies’ may incur more debt in order to gain a better financial momentum, forget the fact that these liabilities cause managers to avoid bankruptcy immediately but, but it can affect their financial reputation in the long-run.

Researchers like Ooi (1999) exclaim that successful firms may be more attracted to such debt providing financial institutions assuming they are saving heavily on taxes, which may be true for them actually.”

Hadlock and James (2002) speak that the companies with a high earning uses huge amount of liabilities. That is, they exhibit a positive equation in between debt financed capital structure and their performance.

Abor (2005) finish that there exists is a positive equation or relation in between these two factors again, measured by STD and TD, and also by its performance across a time period of years from 1998 to 2002 in the Ghanaian firms.

Debt Financing

According to Kester (1986), there exists a negative equation between a firm’s capital and its performance levels. In the countries of United States and Japan, this is also termed as profitability. Related to this, many results were reported by Titman and Wessels (1988) said, Similar results were also given by Rajan and Zingales (1995) as observed in the in the G-7 countries, and Wald (1999) said so about the successful and developed countries.

Haung and Song in their study got a result that a negative equation persists between leverages and their complimentary profits in firms in China.

Chakraborty (2010) had put to work, two achievement measures. One, being profit ratio before any type of attention accrued, duty and any loss on equipment, actually wear and tear, to total assets. The second being, a relation of money runs to the sum possessions of firms. He defined the two leverage measures as ratio of total liabilities to asset, and the ratio of sum borrowed to the sum total of debt plus equity. They found a negative equation here, between these elements.

Research methodology is a platform devised to provide a systematic solution a research problem. In it the various steps employed by a researcher in the study, and logic after the steps is expressed. It is essential for the analyzer to observe, know and understand and acquire a perfect methodology. This means the time tested techniques need to be employed. Researchers are required to indices or tests, calculate mean, median, mode or the standard deviation, but also to validate research techniques, analyze their relevancy and deduce what would they mean and indicate,  and why.

Research methodology is divided into :

Research Quantitative is an explanatory reasearch method which studies information about people’s views and preferences about certain feelings, but not about hard facts. It answers the questions ‘’why?’’ or ‘’how?’.For example, income tax affects on SMEs. Their opinion is in a very small number , too small to be studied. It cannot be generalised even. However, this data can highlight significant issues which can lead to some significant quantitative data. The common methods for gathering qualitative data are question-answers, interviews, one- to-ones, etc. The data collected is crucial and real but it is also quite and time consuming.

Research quantative quantifyies research problems by way of generating numerical data factsasper  research on  measurable data, and paramaeters that can be measured, and  producing statistical data. It is often seenin the form of tables, graphs, charts, sections and diagrams. This method is conducted using a  larger social sample which makes it more feasible, and statistically valid. Quantitative research focuses on numerical stats’ collection and answering questions like ‘’how many’’, ‘’how often’’, ‘’who’’, ‘’when?’’ and ‘’where?’’ The result derived on the basis of these quantitative researc data is also in numerical form. The main methods here are: such as telephonic, face-to-face enquiries and online.

Quantitative data is specifically used when one wishes to analyse thecorrelation of thevariables. This methodology has thus been employed in this case study is to study the relationship between variable 1 - (income Tax) and variable 2 -  (SMEs Growth). It is useful as a Descriptive research as it comes out with exact and dependable values.

A research philosophy denotes the term that means a belief relating to exaction of data for a phenomenon. This data is gathered, and used through methods of: Positivism, Realism, and Interpretivism (Mackey and Gass, 2013). ).The first, Positivism philosophy is dealing with the retrieval of the truth by specifying and highlighting the key areas of the segmentations of the case study. The second, the, The Realism philosophy is, mainly dealing with practicalities and of the subject matter , while the third, that is, theInterpretivism philosophy is defined as, dealing with the human psychological processses, which is not justifiable enough.

Therefore, the researcher has used the positivism philosophy. The truthextracted well as it is believed - that reality is unwaivering and can be explained well. Positivism uses the truth, that is constant,thus identifying the hidden factsof the research study well. Therefore, the justification of choosing this  philosophy is in this subject matter is apprecaited well.

A research Approach designs the procedures and plans research in a way that it spans all the steps right from making broad assumptions, to employing detailed methods of data collection, study, and interpretation. The overall decision revolves around two preliminary divisions, such as the deductive approach and the inductive approach. Let us differentiate the research approaches:

Deductive approach has a hypothesis in the beginning. Based on this kind of a research hypothesis, the researcher conducts the primary data collection process and ponders over the applications or feasibility of the specified problems.

Inductive approach is usually employed when the scope of analysis is narrow. This approach explores new phenomena, or looks at an earlier researched phenomenon with an altogether new or different view.

In this research method, the deductive approach has been used. It is used for gathering data,and does not consder perceptions. I has an objective approach. From the discussions above , we see that the deductive approach is appropriate for this project due to the objective research objectives. Since this research is aimed at testing the existing theories and carries the limitation of time,there will be some secondary data used based on the existing information. The information will have publication researches, statistics, real surveys,retrieved from present and past onlineinformation.

Financial data of the last five years have been extracted from the annual financial statements the UK companies. All financial ratios have been calculated on the basis of real time book values. The considerations are current debt ratio, non-current ratio and total liability ratio. Also some researchers use profit or gain ratio like: Return on Equity, Return on Assets, growth of the firm, and sales &expense levels. These are called controlling variables.”

In this study following variables have been considered:-

• Current debt ratio
• Non-current debt ratio
• Total debt Ratio
• Return on Assets

Research Design articulates what data is required for research methods to be employed to collect data and analysis of collected data. In accordance with Mackey and Gass (2013), the implementations of the appropriate research design will be beneficial enough for justifying the research study with the help of different perspectives. Research design can be categorized into three criterion- Exploratory, Explanatory and Descriptive designs.

A Descriptive design has been working in this study. The aspire of an evocative design is to for accurate and valid representation of the variables relevant to the objective.

This research is based on Descriptive Research can be used to read and classify characteristics of a subject. An analytical approach also aids the understanding of the ‘how’ and ‘why’ of a subject. This approach is utilises the features which scrutinize the variables involved and reach a quantifiable conclusion. Hence, is the suitability of the Quantitative method for data analysis.

The primary variables that will be investigated here are dependent variables and the capital structure.

Profitability ratio is - the equation between equity employed and return on it. This is defined as profitswihout subtracting (EBIT+interest) ,i.e. tax,andd this furtehr divided by Equity(Share +capital + reserves). Equity defines(Assets – Liabilities). EBIT is free of leverage effects thus, isautonomously used. It does ecludes the effects of (interest +taxes) in the capital decisions.

In this method, the structure of capital ratios employe are- short-term debt to total capital; Long-term debt to total capital and Total debt to total capital.

Short-term figure is inclusive of all things under the current debt section of the statements. Long-term figure is inclusive ofnon-current debts, andtotal debt equals (shortterm figure+ long termfigure) debt. Total capital impliesthe sum of equity, short and long term debt figures,leading to the total assets’ figure of the UK companies.  

The logic for investigating three different capital structure ratios is to make sure that there is difference in capital form of all listed firms in UK,if their size variations, are jotted and shown properly in the study.

To ensure that correct results are reached bythe use of our regression model there has been the employment of two more variables. These aretermed as control variables, and though are not the focus of this study, help and support to ensure the results in more precise and perfect manners.They make sure these are more real and pragmatic. These variables reflect: EBIT of listed firms dependon both the capital and size ofthe sales. Registering sales and, the sales-growth were included in the model to ensure the regression stands free of all bias. The sales growth was marked by making a calculation well based on the rates for 5 years, and that was  for each company in the study separately. That is, the growth rate arrived at, for each company in the last 4 years was calculated  taking the first year as the base. Studying how sales have grown over the next four years, a conclusion is reached.

As the study for research, the sample for this study made  of 35 listed companies in which 175 financial statements were for a period of 5 years which ended on 31 December, 2009.

Data is a set of qualitatitve or quantitative variables which together forms information. It can be in the form of numbers,graphs,images,pictures and symbols.Data can be measured, collected and analysed.

Classification of Data on the basis of source-

• Priamry Data
• Secondary Data

Data collected by the investigator himself for the purpose of research. Primary data is the data collected specific to the problem under study.

Sources of Priamy Data can be as follows:-

• Questionnaires
• Experiments
• Surveys
• Interviews
• Case Studies
• Statistical Data

Data already collected by someone else and not by the investigator or researcher. Secondary data is one type of quantitative data that has  already been collected previously by someone else whose purpose was altogether different from the purpose its being used. It is easily available and can retrieved ,and can be used directly to assist in research work.

Sources of Secondary Data can be as follows:-

• Previous research
• Offical Statistics
• Reports
• Letters
• Web Information
• Historical Data & Information
• Articles & Publications
• Books & Journals

Due to time constraints, secondary data has been the source of data to complete the research work. Moreover this research basically involves the examination of studies of other researchers, therefore secondary data has been given preference.

The data has been collected from the published printed sources through electronic medium, due to the fact that, it is quick to retieve and can be accessed by masses. The other reason for choosing electronic medium being unavailabliity of material data in hard printed form,but otherwise easily available online. Though published printed sources like journals,books,newspapaers ,magazines,etc have been consulted.

Sources of electronically published data are - Dawson eBooks, FAME, etc. Whereas printed data will be retrieved from SMEs’ magazines like Business Matter magazine.Some prints are also from newspapers like FinancialTimes,Reuters,etc.However the authenticity of the data  is reflected by factors like - the author’s name, the publishing house, date of publication. Generally newer sources of data are preferred. Thus, making the lastest technology researches more appropriate. It is very important for the data to be proof checked and authenticisedas per elements of Reliability and Adequacy.

In this method, reversion theory has been used to derivea relationship between the capital and the profits earnedbythe UK Firms. Regression analysis Model quantifies the relation between the capital variable,  and the profits variable of UK Firms. Study done to explorethe relationship between them is positive or negative . With this important study, it gives a wave of how the specific trade-offs, pecking theories,and more, are applied to the UK firms under study.

The equation between Capital structure and profits earned is defined, by the following 3 reversion models:

1. ROE_it= β₀ + β₁SDA_it+ β₂Size_it + β₃SG_it+e₁ ...... Regression 1
2. ROE_it = α₀ + α₁ LDA_it + α₂ Size_it + α₃ SG_it + e₂ .......Regression 2
3. ROE_it = λ₀ + λ₁ DA_it + λ₂ Size_it + λ₃ SG_it + e_{3 ...............}Regression 3

Where:

β₀, α₀, λ₀: The intercept of equation

β, α, λ: Coefficients for independent variables.

ROE: Net Income/ average equity

SDA: Short-term debt/total assets.

LDA: Long-term debt/total assets.

DA: Total debt/total assets Size:

Natural Logarithm sales, was lagged by the firm over a term of one year.

SG: Current year’s sale figuressubtracted from previous year’s sale figures. This then divided by the sale figures for the year prior to this.

i: firm

Regression 1 is forincurring a vision of the equationof profitability & short-term debt.

Regression 2 is forincurring a vision of the equationof profitability & long-term debt and,

 Regression 3 is forincurring a vision of the equationof profitability & total debt.

Thus its essential to find out the dissimilarities,differences,errors and omission of data material enough to influence the research process. Scrutiny and evaluation of secondary data is done to check authenticity,credibility of data ; data should not be inaccurate,inadequate and insufficient to research in action.

In order to prove the feasibility and viability of data of study and not be questioned about sources of the study data, few points must be marked while gathering it. These are: who collected it ?, The source?, Were the appropriate methods employed to collect it?, Were the statistic units well defined?, What was the time period forits? Was it a sample or real Census? Difference between accuracy desired and achieved? Was the data in comparable form?

This research based on Descriptive research method, identifiable by an analytical approach, supported by the capital structure decisions explains as to certain occurrences, by questions like how and why. This approach is applied exhibit best results in finding and identifying the involved variables. Quantitative method is undoubtedly, the one that is best suited for studies through collection of data and data analysis.

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