Meaning and Concept of Capital Structure¶
The term 'structure' means the arrangement of various parts. So, capital structure means the arrangement of capital from different sources to raise the long-term funds needed for the business.
Capital structure refers to the proportions or combinations of the following components in the total amount of capital that a firm should raise to run its business:
- Equity share capital
- Preference share capital
- Debentures
- Long-term loans
- Retained earnings
- Other long-term sources of funds
Here are a few definitions of capital structure provided by financial experts:
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Gerstenberg: "Capital structure of a company refers to the makeup of its capitalization and includes all long-term capital resources such as loans, reserves, shares, and bonds."
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John J. Hampton: "Capital structure is the combination of debt and equity securities that comprise a firm's financing of its assets."
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I. M. Pandey: "Capital structure refers to the mix of long-term sources of funds, such as debentures, long-term debts, preference share capital, and equity share capital, including reserves and surplus."
Capital structure encompasses the kinds of securities and their proportionate amounts that make up the firm's capitalization. It involves the mix of different sources of long-term funds, including equity shares, preference shares, debentures, long-term loans, and retained earnings.
Capital structure also signifies the relationship between various long-term sources of financing, such as equity capital, preference share capital, and debt capital. Deciding the appropriate capital structure is a critical decision in financial management because it is closely linked to the firm's value.
In essence, capital structure represents the permanent financing of the company, primarily consisting of long-term debt and equity.
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