DETERMINATION OF CAPITAL STRUCTURE IN BUSINESSPERFORMANCE IN SUGAR INDUSTRIES.

BY

FRANCIS T. OTIENO AKECH

ADMISSION NUMBER BBM/1022/2014

A RESEARCH PROPOSAL REPORT SUBMITED TO RONGOUNIVESITY COLLEGE INPARTIAL FULFILMENT OF THE

REQUIREMENTS FOR THE AWARD OF DEGREE IN BUSINESSMANAGEMENT.

RONGO UNIVESITY COLLEGE

(A CONSTITUENT OF MOI UNIVERSITY COLLEGE)

CHAPTER ONE

INTRODUCTION

1.0 Background information

Capital structure in business has become of great concern in

various categories of business. Africans capital structure is the

specific mixture of long term debt and equity from uses to

finance operations.

A survey was done in the Europe on the capital structure (2006).

A paper was presented documenting several interesting insight on

how theoretical concept are being applied by professional in the

UK, Netherlands, Germany and France.

The results in south Africa, appear was done by

tendaigivatidzo(2012) investigating capital structure for 178

firms listed on the Johannesburg stock exchange for the period

(1998 – 2008). The sample of firms also used to examine the cost

and speed of adjustment towards the target debt ration.

The determinants of target capital structure for South Africa

listed firms are also exerted. The result shows that South Africa

firms adjust relatively fast towards a target or average level.

The result also suggest7ed that capit6al structure decision of

south Africa listed from follows both packing order and trade of

theories of capital structure.

It is also found that asset tangibility, growth, size and risks

are positively related to leverage, while profitably and tax are

negatively treated to leverage.

Originality value – the issue of dynamic adjustment towards a

target or optimal dept ratio has not received sufficient

attention in delivering economics. Using data from an emerging

economy this paper attempt to fill this gap in estimated using

generalized method of moment techniques

In Nigeria, a study was carried out (2000 to 2010). The impacts

of some micro economic virables were considered as (gross

domestic product and inflation) on firm performance. The

traditional theory of capital structure was employed to determine

the significance of leverage and macroeconomic variable on firm’s

performance.

The study makes a comparative analysis of the selected firms

which are classified into highly and lowly geared firms setting

leverage threshold of above 10% as being highly geared. A static

panel analysis was used to achieve the objectives of the study.

Using fixed effect regression estimation model, relationship was

established between performance (proxies by return on investment)

and leverage of the firms over a period of ten years. The result

provides strong evidence in support of traditional theory of

capital structure which asserts that larges is significant

determinant of firms performance.

Assignment negative relationship is established between leverage

and performance from the findings.Findings, they recommended that

firms should use more or equity than debt in financing their

business activities, this is because in spite of the fact that

the value of a business can be enhanced with debt capital, it

gets to a point that it becomes detrimental. Each firm should

establish with the aid of professional financial managers, that

particular debt-equity mix that maximize its value and minimize

its weighed average cost capital.

Kenyatta University for 55 companies quoted at the Nairobi stock

exchange (between January 1995 -Dec 2005) the company must had

been quoted at least 8 consistent years to allow the study

captured. The dynamics of capital structure. This data is

available at the Nairobi stock exchange (NSE) records. The data

included proxies’ for debt average /leverage, tangibility,

profitability, business risks, growth, size and non-debt tax

shield.

In sonny sugar, capital structure became a big issue since the

argument between privatization and retaining the public nature.

Members of the catchment area insist that they should be

allocated a bigger stock since they provided land, feeding the

company with raw materials and local manpower. On the other hand,

the locals do not have ability to buy greater share of the

company.

In summary, it is important to study, analyze and evaluate the

various determinants of capital structure.

1.1 Statement of the problem

The study investigates capital structure practices, processing

capital structure decisions identified and justified. It helps to

examine the statements, financial performance, tax allowances. To

find out the impact of capital structure on the profitability of

firms. To identify and analyze the relationship between

profitability and capital structure.

It helps in understanding on how firms can make up as optional

capital structure, indicates the best debt. To equity ratio for a

firm that maximizes its value. Helps to secure the capital

structure of a firm and the implications that has for the

selection.

Purpose of the study

The purpose of the study is to identify key factors involved in

establishing a firm capital structure. To achieve this purpose,

the following should be done:

Analyze the assets tangibility.

Establish the size of the company.

Identify the risks involved.

Analyze the growth of the firms.

Establish the profitability

1.2 Objectives of the study.

i. To identify key determinants of capital structure.

ii. To establish the effects of risks in capital structure.

iii. To analyze the effects of profitability on capital

structure.

iv. To evaluate the effects of growth on capital structure.

v. To establish the size of the firm on capital structure.

vi. To analyze the effects of assets tangibility on capital

structure.

1.3 Research questions

i. Does risk determine capital structure?

ii. Does size of the company affect capital structure?

iii. Is assets tangibility affecting capital structure?

iv. Does growth affect the capital structure?

v. Does profitability determine capital structure?

1.4 Significance of the study

This study is significant to me because it helps me understand

various forms of capital employed into a business and how the

various determinants affect capital structure.

This study will help other people reading this paper to know how

to analyze the best required capital that maximizes firm’s value.

1.5 Scope/delimitation of the study

The scope of this study is business delaminated to sugar

industry.

1.6 Limitations of the study

The samples chosen focused on listed firms thus the results

cannot credibly be generalized to all firms (listed and

unlisted). Also whilst a lot can be gleaned from the results,

they may not be readily applicable to firms in other countries.

1.7 Definitions of key terms

Capital structure-miwture of longterm debt and equity a firm uses

to finance its operations.

Catchment-an area from which raw materials are found.

Dynamic-continuously moving or changing.

Detrimental-causing harm or damage.

Debt ratio-ratio of debt finance in terms of whole capitalof the

firm.

Gleaned-to find out additional information.

Gearing-relationship between the amount of money that a company

owes in debtors.

Leverage-the extent to which the company is able to pay back

borrowed funds.

Listing-including a company’s stock at the stock exchange market

so that they are offered for sale to the public.

Macro-large and concerning a whole system rather than

particularparts of it.

Paper-a document showing expressions of ideas.

Pecking order-ranking the various sources of finance in order of

priority.

Proxy-something used to represent something else that you want to

measure.

Quoted-to give the price of a share or security.

Regression-a method used tocompare leverage levels of different

selected firms.

Tangibility-clear enough or definite enough to be seen or

noticed.

Threshold-level set as a standard measure allowed.

Trade off-to balance one sisuation or quality against another to

produce an acceptable result.

CHAPTER TWO

2.0 LITERATURE REVIEW

2.1 Theoretical framework

Asset tangibility

Size of the company business

Risks involved

Growth

Profitability

2.1.1 Theory and their intercalation:

Asset tangibility

Tangible assets have a long term existence in the business. A

large sized firm is likely to have more tangible assets and

tangible assets are risky compared to intangible assets.

2.1.2 Size of the company/ business

How big or small the firm is in terms of measurement

A large firm has economies of scale and can yield more profit

compared to small sized companies

2.1.3 Risk

Exposure to possibility of loss. Mostly a risky business is

charged a high profit margin to cater for the risk factor.

2.1.4 Growth

Increase in the market value of goods and services produced by a

company. A highly developing firm increases in size faster

compared to a stagnant company.

2.1.5 Profitability

The condition of yielding gain.

A highly profitable venture has ability to grow faster. Size of

the company is likely to an inrease in a profitable business

2.2 The concept of business performance

The accomplishment of a given task measured against preset known

standard of accuracy, completeness, constant speed. In a

contract, a performance is deemed to be fulfillment of an

obligation in a manner that releases the performer from all the

liabilities under the contract. This is according to web-finance

(2014)

2.3The concept of determinants of capital structure with

reference to ms.04 accounting and finance for manager (jun2011),

capital structure represents the total long term investment in

business firm. It includes funds raised through ordinary and

preference stores, bonds, debentures, term loan from financial

institution. Any earned revenue revence and capital surplus are

included. The determinants are factors that affect the nature of

capital structure.

2.4 Empirical studies:

According to john Wiley and sons (1999-2014). A data collected

from 40 pair of manufacturing firms selected from as many

industries over 93-year period; show that the size of outsize

institutional stock holding has significant effect on the firm’s

capital structure. It is also found that the family aid inside

the institutional owners shareholding moderate the relationship

between outside intuitional shareholders and capital structure.

Likewise, corporate executive’ share holders supplement the

relationship between outside share holders and firms performance.

These findings suggest that internal and external coalition

interact with each other to influence the firm’s conduct.

A study carried out in 435 of the large European companies

controlling industries, capital structure and nation effects we

find a positive effect of ownership concentration on share

holders value(market to book value of equity)and profitability

(asset returns), but the effect level off for higher ownership

stores.

2.4.1 Asset tangibility

Tangible assets is cash,equipment,machinery, property, anything

that has long term physical existence or is acquired for use in

the operations of the business and not for sale to customers. In

the balance sheet of the business, such assets are listed the

heading plant and equipment or plant property, and equipment.

Tangible assets unlike untangible assets, can be destroyed by

fire,hurricance or other disasters or accident. Howecer they can

be used as collateral to raise loans and can be more readily sold

to raise cash in emergencies.

According to compbell R.harvey (2012), tangible assetsis an

asset whose value depend on perticulare properties. This include

reproducible assets sich as building or machinery and non

reproducible assts such as land, mine or a work of art. Also

called real assets.

According to investo padia(2014), tangible assets has anticipated

useful life of more than one year, a company uses a process

called depriciation to allocate part of the asset expence to

each year of its useful life, instead of allocating the entire

expence of the year in which the asset is purchased.

A business with more tangible assets will perform better and will

be more stable in its operations.

2.4.2 Size

According to encyclopedia britamica (1911), size may refer to how

big or small something is interms of measurement, size is the

process of determining the mgnitute of a quantity such as length

or mass, relative to a unit of measurement such as a meter or a

kilogram.

Generally a small business is not dormant in the field of

operation in which it is biding and meets the standard as

prescribed in the government regulations. A large business

concern exceeds the small business size cod standards established

by the SBA as set forth in the code of federal regulation (title

13, part 121)

Size is related into business performance in that a large sized

business has an advantage of economies of scale in its operations

hence more profi

2.4.3 Risk

According to parker porothems, risks are the potential of losing

something of value. Value (such as physical health, social

status, emotional well being of financial wealth) can be gained

or lost when taking risk resulting from a given action, activity

aid or in action foreseen or unforeseen. It can also be defined

as intentional interaction with uncertainty. Risk perceptions the

subjective judgment people make about the severity aid or

probability of risk aid many vary from person to person.

Uncertain event or condition that if it occurs has an effect on

at least one object (oxford English dictionary), (exposure to)

the possibility of loss, injury or adverse or unwelcome

circumstance a chance or situation involving such a possibility.

According to 15031000(2009)/ 150 guide 73:2002, risk is the

effect of uncertainty on objective; uncertainties include events

(which may or may not happen) and uncertainties caused by

ambiguity or a lack of, information. It also includes both

negative and positive impacts on objects.

Risk has a greater effect on business performance since it

determines the rate of return on a business.

2.4.4 Growth

Growth is the increase in market value of goods and services

produced by a company over a period of time. It is conventionally

measured as a percentage rates of increased I the real gross

domestic product. This is according to Wikipedia (28/10/2014)

Growth is the act or process or a manner of growing, development,

gradual increase. It is the size or stage of development

(At distinctionary.com)

According to the theory of ultimate fate of the universe, growth

refers to positive change in size, often over a period of time.

Growth occurs as a stage of maturation or a process towards

fullness or fulfillment. It can also perpetuate endlessly.

It has a great effect on business performance since a highly

growing firm will realize its full potential hence higher

returns.

2.4.5 Profitability

At web-finance (2014), profitability is a state or a condition of

yielding a financial profit or margin. It is often measured by

price to earnings ratio.

Merrian-webster defines profit as yielding advantageous return or

results.

Profitability has an impact on the performance of a business

venture since the main aim of a firm is to make profit, and

without profit, there is no need for being in business.

CHAPETER THREE

RESEARCH DESIGN AND METHODOLOGY

3.1 INTRODUCTION

The major objective of this paper is to provide more insight into

the empirical determinant of target capital structure of firms

and the adjustment process towards this target.

A. TOPIC

Determinants of capital structure in business performance

B. Background information

C. Statement of the problem

D. Objectives of the study

E. Research questions

F. Significance of the study

G. Scope/deliminance of the study

H. Limitations of the study

I. Definition of the key terms

J. Literature review

K. Research resign and methodology

3.2 STUDY AREA/ LOCATION

This research will be concluded in south Nyanza Sugar Company of

Migori County. It covers approximately 3000 hectors with a

population of approximately 100,000 people.

In those companies there have been mix reaction about capital

structure whereby a given population wants the company privatized

while others wants it to remain public if there is no clear

procedure of privatization.

3.3 STUDY DESIGN

This study covers the sugar industry and its catchment areas.

3.4 TARGET POPULATION

This study covers the sugar industry and its catchment area

3.5 SAMPLIG PROCEDURES

This sampling technique method used is probabilistic. This is

because the technique gives equal chances during data collection

hence gives fair result.

3.6 SAMPLE SIZE

The information is gathered from 30% of the population in the

study area.

3.7 DATA COLLECTION INSTRUMENTS

The primary data is used in the project.

Unstructured questionnaire is used for the management team in the

organization while structured is used for the unskilled

employees.

3.7.1 QUESTIONEIRE

This is administered to lower level employees and members of the

catchment area.

3.7.2 INTERVIEW SCHEDULE

This is administered to the staff of the company depending on the

level of education. In top management unstructured style of

interview is used while for the an cleared team, structured

questions are used.

3.8 VALIDITY AND RELIABILIY

3.8.1 VALIDITY

This is the accuracy with which the instruments used will give

correct answers. Validity in this study is ascertained though a

pilot study.

3.8.2 RELIABILITY

Is the degree to which assessment tool produces stable and

consistent result. This is ascertained by using accurate tools

which are tested every time before use.

3.9 DATA ANALYSIS

A table is used to analyze the data this is because it gives

space for analyzed of every category of group in data collection.

3.10 ETHICAL CONSIDERATION

During the study, the following standards were observed:

Objectives

Etiquette

Confidentiality

Time management

Respect for all

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