DETERMINATION OF CAPITAL STRUCTURE IN TEXTILE INDUSTRY OF PAKISTAN 1

DETERMINATION OF CAPITAL STRUCTURE OF GUL AHMED


DETERMINATION OF CAPITAL STRUCTURE IN TEXTILE INDUSTRYOF PAKISTAN “A STUDY OF GUL AHMED TEXTIL

MILLS LIMITED”

CHAPTER # 1: BACKGROUND OF THE PROBLEM

1. INTRODUCTION The purpose of this research is to identifying the following

points:

Capital Structure of the GUL AHMED TEXTILS.

What type of financing did GUL AHMED TEXTILE uses?

How GUL AHMED Manage their Financing techniques?


To identifying the points above I have first given you a brief

introduction of Capital Structure and GUL AHMED I have also given

you a detail of GUL AHMED Capital Structure for influencing the

reader


Figure1.1.


1.1 Background of Gul Ahmed:

Gul Ahmed Textile Mills was Establish as Private Limited

Company in 1953 and it was listed in stock exchange in 1973.

The group was start trading in textiles in early 1900’s. The

company has been start growth and made the one of the best

textile house of the world (Mills G. A.). Gul Ahmed starts

textile field from spinning of cotton as well as man made

fibers then extend to the weaving, processing and finishing of

all kind of cotton and blended fabric, bed line, home

furnishing, garment manufacturing etc (Mills G. A.).

Products:

The products of Gul Ahmed have a unique fusion of the old age

traditions of the east and they have a largest textile

technology of the west. The products are as follows:

Bed-Linen

Curtain


Fabric

Yarn

The main reason of success of Gul Ahmed is that they have

making a excellent advertisement of their products weather in

printed media or electronic media. They launch their magazine

twice in a year i.e. in summer and winter collections. They

also get success in introducing the Ideas by Gul Ahmed. It

increases the targeted profit and also increases the value of

the firm.

1.2 Background of Capital Structure:

Whenever any firm expends its capital and this capital is come

from the debt and equity. There are two most important

advantages if the firm finances its capital through DEBT.

First, the interest which company paid that is tax deduction

which results in low debt effective cost. Second, the debt

holders always get the fixed return, however the stock holders


do not share the profit if the business is getting high

profit.

Similarly there are some disadvantages of debt financing. If

the debt ratio is higher, the company becomes more risky which

provide the result in the higher cost of both financing debt

and equity. Second, if the company do not have sufficient

operating income to cover the interest, so the short fall is

cover up by the stock holders this will resulting that no one

cannot bankruptcy. When the company was unable to generate

operating profit or cash flows the company should not use the

debt financing. Similarly if the company earning power is high

or do not having any business risk, they should use the debt

financing. (Shahid, Capital Structure Decision)

In the year 1958, two professors Franco Modiliani and Merton

Miller they introduced the Capital Structure Theory. They

published the finance article and describe some useful


assumptions in which the firm value is unaffected through its

capital structure. These assumptions are as follows:

There is no brokerage cost.

There are no taxes.

There are no bankruptcy costs.

Every investor may borrow the same rates as corporations.

Every investor should get the information as management

related to the future opportunities of the investments.

Uses of Debt do not affect the EBIT. (Shahid, Capital

Structure Decision)

Trade-Off TheoryThe result of MM depends on the assumption of there are no

bankruptcy cost. It becomes quite costly. Those firms which are

having bankruptcy they are high legal and accounting expenses. It

also hard to retaining customers and suppliers. Due to bankruptcy

firm liquidate their assets to continue the firms operations.


Bankruptcy related cost having two components:

1. Probability of financial distress.

2. Those cost which incurred the financial stress

If the firm’s earning is volatile and also face a greater chance

of having bankruptcy, they should decrease the use of debt. If

the firm having high operating leverage, and also greater

business risk, the firm should limit their use of debt. (Eugene

F. Brigham)

Pecking Order Theory

In the year 1961 Donaldson was suggested the pecking order

theory, after that in the year 1984 it was modified by Stewart C.

Meyers and Nicholas Majluf. This theory states that companies

prioritize their sources of financing (from internal financing to

equity). This theory also maintains the hierarchy of the

financing sources and chooses internal financing whenever it’s


available and chooses debt over equity if external financing is

needed.

If the available information is favoring the issuance of debt

over equity as the issuance of single debt, it makes the

investment profitable and the sock price is under-valued

(therefore if stock price is over value the issuance of equity

would be favorable). The single equity issuance would make a lack

of confidence in the board and they feel that the stock price is

over-valued. If the firm issued the equity it would drop the in

share price.

Pecking order theory may also explain the inverse relationship

between the profitability and debt ratios, these are as follows:

1. The firm should prefer internal financing

2. Trying to avoid the sudden changes in dividend which adapt

the target DPO(Dividend Pay Out Ratios) to their investment

opportunities


3. If there is any need to required external financing, the

firm should issue the safest security first, means they

start with debt financing after that if possibly issue the

hybrid securities. On the other hand the internal funds are

least issuance cost, which is low for debt and high for

equity. (http://en.wikipedia.org)

There are many empirical studies are tried to explain those

factors which affect the capital structure’s choice.

Signaling Theory:The firm manager reveals the information through signals to the

public about the firm value. Manager gets incentive to signal if:

1. The public do not have private information about the

firm value.

2. Bad firms can’t imitate.

In corporate finance signaling theory used to explains the level

of investment by an entrepreneurs in the firm, debt versus


equity choices, size of dividend, and stock splits, the signal

is meant is to split good firms from bad firms. (Signaling

theory)

1.3 Statement of Problem:

Textile industries having a lot of potential growth in Pakistan

and the Gul Ahmed is one of the textile mills having a good

market value. The problem statement of my thesis is that why Gul

Ahmed Textile Mills Limited financing their company through

equity instead of debt financing.

1.4 Significance of Study:

This thesis has great significance to the Gul Ahmed Textile Mills

Limited. It includes the performance of capital structure of the

company to analyze the scenario which has emerged the Gul Ahmed.

1.5 Aims and Objectives:


The objective of this thesis is to study the capital structure of

the Gul Ahmed. It also indentifies the performance of the capital

structure of the Gul Ahmed Textile Mills Limited for the last 5

years.

This thesis also covers:

To identify how Gul Ahmed Textile Mills manage their

financing decision.

To evaluate why Gul Ahmed Textile Mills Limited finance

their firm with their equities instead of debt financing.

1.6 Scope:

The major reason for this research is that the people of Pakistan

are not aware with the capital structure of the Gul Ahmed except

those people living in the metropolitan cities like Lahore,

Islamabad, Karachi and some other cities, and the rest of the

cities of Pakistan is un-aware of the capital structure of the

firm.


It is very important to evaluate the capital structure of the Gul

Ahmed Textiles and problem which they finance their Organization

through high level of equity.

1.7 Methodology

To carry out the research work there are several number of

research techniques I identifies which includes comprehensive web

search, interviews, and books like Financial Management and

Corporate Finance. It also evaluates the some issues which make

the obstacles of capital structure of the Gul Ahmed.

For these issues the following research methodologies are

followed:

Primary Data:

Interviews, Questionnaires

Secondary Data:


Research material, Libraries, Internet, Articles

1.8 Limitation:

The aimed of this research work is to obtain the above mentioned

objectives/aims in dept, in serious manner. There are some

limitations and problem that I have identify during this research

work are summarize as follows:

There are few people know about the capital structure of Gul

Ahmed.

It takes time to locate the target respondents.

It takes time get the relevant data of the research.

1.9 Structure of the Study:1.9.1 Chapter One:

This chapter introduces the reader to the topic, its

background, problem statement, significance of the


study, aims and objectives, limitations and methodology

is also mention in this chapter.

1.9.2 Chapter Two:

This chapter is explaining the research methodology and

measures which I used for this research work. I also

attached some examples of the questions asked during

the interview.

1.9.3 Chapter Three:

In chapter three it provide review of the literature

and study of capital structure of the firms, theories

of the capital structure, Calculating Weighted Average

Cost of Capital (WACC), Capital Structure Analysis

Using EBIT-EPS.

1.9.4 Chapter Four:


This chapter involves presentation analysis of the

capital structure of the Gul Ahmed Textile Mills

Limited.

1.9.5 Chapter Five:

This chapter includes the conclusion and recommendation

which I observed during my thesis work.

1.10 Summary of the Chapter:

In this chapter it presents the summary of the chapter 1. It is

starting with the purpose of the study, it explained the purpose

presented. Introduction and background of the capital structure

and Gul Ahmed Textile Mills Limited with the aims and objectives,

limitation is also discussed in this chapter. Moreover, scope of

the study is also discussed so it helps the reader in term with

the definite research topic of this thesis. Background leads to

the aims and objective of this study with very rational aim

identified; it is further filtered down in two objectives.


The methodology and the structure of the thesis is also

mentioned; every sub-headings making the readers mind more focus

and cleared about the research topic. In the end, the structure

of the thesis gives a short review of what each chapter will

encompass.


CHAPTER # 2: RESEARCH METHODOLOGY

2.1Introduction:

Research methodology will be described as the methods,

techniques, procedures and tools which can be used for this

research. These methods may either ‘qualitative’ or

‘quantitative’, or a combination of both methods. Those

techniques mostly involve various approaches i.e. theoretical,

descriptive, or exploratory. There are some other tools includes

collection of data through, personal meeting and interviews,

questionnaires, observation and internet etc. All the above

mentioned methods describe the basis for research work. (Khan,

2011)

2.2Types of Research Design:

There are two types of research design these are as follows:

Quantitative Research Methodology.


Qualitative and Descriptive Research Methodology.

2.2.1 Quantitative Research Methodology:

Quantitative research involves investigation based on deep

observation, experiments, different phenomena and relationships.

The main reason for this research is to generate mathematical

models and theories. There are some various type of quantitative

research that can b employed:

Face to face interview.

Telephonic interview.

Postal market research.

Internet research.

2.2.2 Qualitative Research Methodology:

Qualitative research contains an understanding of how and why

things are as they appear to be.


The researcher is to write a well written research report so that

can b reflects the ability of the researcher which can describe

the related facts.” One of the greatest strengths of the

qualitative approach is the richness and dept of exploration and

descriptions.” (Myers, 2000)

2.3Major Component of Research Design:

Following are the major component of research design, these are

as follows:

Purpose of the study

Types of investigation

Extent of research interference

Study settings

Unit of analysis

Time horizon


2.3.1Purpose of the Study:

This study is descriptive in nature in order to ascertain and be

able to describe the characteristics of the variables of interest

in a situation.

2.3.2 Type of Investigation:

There are two types of investigation. These are as follows:

Casual Study

Correlation Study

In my research I used the Correlation Study because I have

delineating main variable which is associated with the problem

statement. This study generally held in a natural environment

with minimum interference the researcher. So, the flow of work is

mostly remaining normal.


2.3.3 Extent of Research Interference:

This study is conducted in a natural environment with the minimal

degree interference of the researcher.

2.3.4 The Study Setting:

My research is done in a non-contrived setting. In this study

setting there is no interference of the researcher with the

normal work routine.

2.3.5 Unit of Analysis:

In my research topic the unit of analysis is the Gul Ahmed

Textile Mills Limited.

2.3.6 Time Horizon:

My research is basically a cross sectional study because the data

in this research is collected is just once, maybe be it would be

collected more then the period of days or weeks or months in

order to answer the question.


2.4Sources of Data Collection:

There are only two types of data collection. These are as follows:

2.4.1 Primary Data:

In this type of data collection the researcher himself or herselfcollects the data through different techniques i.e. questionnaires and interviews. The major source of this techniqueis no one else has access on it. This data source involves the following methods:

Questionnaires Interviews Focus group interviews Observation Case study Critical incidents

2.4.2 Secondary Data:

This type is already taken by someone else in the past for different usage. This data involves the following:

Annual Company Reports and Government Statistics


2.5Theoretical Framework:

INDEPENDENT VARIABLE:

DEPENDENT VARIABLE:

Earning Per Share


Level of Equity PriceEarning Ratio

WACC

2.6Hypothesis Development

H0: Gul Ahmed Textile Mills Limited is financing through equity as its market value is high.

H1: Gul Ahmed Textile Mills Limited is financing through equity as its market value is not high.

DETERMINATION OF CAPITAL STRUCTURE IN TEXTILE INDUSTRY OF PAKISTAN 1

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