What is the capital structure?

2024 Author: Henry Conors | [email protected]. Last modified: 2024-02-12 02:41

Successful development of the enterprise, stable positive financial and economic indicators of its activities largely depend on the capital structure of the enterprise.

In the economic literature, the term capital structure is commonly understood as the ratio between the borrowed (attracted) and equity capital of an organization, which are necessary for its sustainable development. The implementation of the organization's long-term development strategy as a whole depends on how optimal this ratio of capital is.

The concept of the capital structure of an organization includes debt and equity capital.

Equity includes the assets of the organization, which are used by it to create some of the property of the organization and which belong to it by right of ownership. The equity capital structure includes the following components:

- additional capital (represented by the value of the property contributed by the founders in addition to the funds forming the authorized capital; these are the values that are formed during the revaluation of property as a result of a change in its value, as well as other income);

- reserve capital (this is the part of the company's own capital that is allocated from the profit received in order to repay potential losses or losses);

- retained earnings (is the main means of accumulating the organization's assets; is formed from gross profit after payment of the established income tax, as well as after deductions for other needs from this profit);

- special purpose funds (part of the net profit that the organization directs to production or social development);

- other reserves (such reserves are necessary in case of upcoming large expenses, which are included in the cost of products or services).

The borrowed capital of the organization is represented by borrowed funds or other property values on the basis of their return, which are necessary to finance the development of the organization. As a rule, these include long-term bank loans, as well as bond loans.

It should be noted that an organization's optimal capital structure is the ratio of equity to debt that maximizes the organization's total value.

In economic practice, there is no clear recommendation on how to form the best capital structure. On the one hand, it is generally accepted that, on average, the price of borrowed capital is lower than that of own capital. Therefore, an increase in the share of cheaper borrowed capital will entail a decrease in the weighted average cost of capital. However, in practice thiscase, you can come to a decrease in the value of the company, which depends on the market value of the equity of the organization.

Also, raising debt capital has a number of limitations, and the growth of debt directly affects the possibility of bankruptcy. In addition, existing debt obligations significantly limit the freedom of action when dealing with finances.

Therefore, the capital structure of an organization is a rather complex and unpredictable element of the financial component of an enterprise, requiring a competent and scrupulous approach to it.