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FIRM CHARACTERISTICS AND
CAPITAL STRUCTURE OF LISTED OIL AND GAS FIRMS IN NIGERIA
CHAPTER
ONE
INTRODUCTION
1.1
Background to the Study
All
forms of business organisation whether large or small need money to start and
to meet their daily and long-time obligations if they want to maintain a going
concern status. These businesses exist to achieve various goals which include profit
maximization, shareholder value maximization, sale volume and sale revenue
maximization, increased market share, survival, ethical goal, and satisficing.
Achieving these goals translates into meeting harmonized expectations of
stakeholders. Focal to this sought-after accomplishment is informed
consideration of financing channels available to the firm. The financing
options available to a firm are debt or equity which forms its capital
structure. According to Chechet, Garba and Odudu (2013), a perfect combination
of debt and equity is very important to the growth and future of a firm if
properly utilized. Thus, the importance of capital structure decisions in the
achievement of a firm’s goals cannot be over emphasized. The theory of capital
structure was first introduced by Modigliani and Miller (1958) in their seminal
paper on the relevance of capital structure to the value of a firm under
perfect market based on some assumptions (where there are no transaction costs,
no corporate and personal taxes, symmetric information, amongst others). Thus,
the irrelevancy theory arguably forms the basis of modern thinking on capital
structure in finance. For the past decades following the work of Modigliani and
Miller, intensive research has been conducted to empirically test the validity
of their theory. Capital structure research has focused on whether financial
decisions become relevant if these assumptions are relaxed. As noted by Bevan
and Danbolt (2002), under market imperfections, firms will determine and
attempt to select level of debt-equity mix that will make an optimal capital
structure. Therefore, determining optimal capital mix has been the focus of
corporate finance literature. Capital structure according to Martina (2015) is
the way a corporation finances its assets through the mixture of debt and
equity. Whether a firm is financed by debt or equity or a combination of both
has some implications. As both involve costs to the company, there is need for
the company to choose the right option that minimizes its cost and in most
cases companies tend to choose the most probable least-cost combination. Thus,
the debt and equity proportions are the measurement tools for capital
structure. Determining debt and equity is an important decision faced by
companies. Consequently, studies indicate that companies without borrowings (unlevered
firms) show less fluctuations in their earnings, whereas companies with
borrowings (levered companies) show greater fluctuations in their earnings when
there are changes in their financial performance (Ojo, 2012; Akhtar, Javed,
Maryam, & Sadia, 2012and Hasanzadeh, Torabynia, Esgandari & Kordbacheh,
2013). Some specific implications of borrowing on levered firms are outlined as
follows: borrowings require interest payments that in effect, slash firms‟ net
incomes, interest expenses are costs that increase the volatility of net
incomes and thus, affect EPS and borrowings also relatively reduce the
proportion of the equity in a company’s capital structure and thus, reduce the
number of shares outstanding. Therefore, companies have to carefully structure
their capital mix so that the best result can be achieved. Chechet etal (2013)
opined that an optimal combination of capital structure is one that not only
maintains the stability but also enhances the firm’s wealth. However, many
factors are considered when making this important financial decision, because a
wrong turn may lead the firm to financial instability or distress which is not
the aim of a going concern.
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