Capital Structure Theories: A Comprehensive Review

Abstract

In this article the authors review almost all the preliminary and fundamental capital structure theories. Evidently, capital structure is still an unsettled puzzle and scholars are constantly in search of those factors that help a firm to articulate optimal capital structure. However, explained theories of capital structure elucidate a theoretical platform for the firm’s management that assist them to select optimal mixture of equity and debt. Therefore, the importance of these theories is not possible to ignore. Though, academic literature has discussed various theories of capital structure but theory presented by Modigliani Miller, Trade Off theory and Pecking Order theory are deliberated broadly. Similarly, the other capital structure theories have their own importance in defining and explaining capital structure choices for firms that enhance their overall financial performance. Certainly, by applying the guideline provided by these theories a firm can easily attain a maximum profit, minimize its cost and also boost its overall market value. This article is an attempt to discuss nearly all capital structure theories to deliver a comprehensive explanation for the firm’s management which help them to formulate their capital structure in accordance with theoretical guidelines.