Impact of Financial Structure on Firm’s Performance: A Study of Pakistan’s Chemical Sector

Abstract

Firms have choices to raise their capital by various means including internally generated fund, new equity issue or various types of debt. The decision to select sources of finance is referred to as financial structure decision. Financial structure decision is very critical decision with great implications for the firm's performance. Theories proposed by the researchers to explain the financing decisions have always been subject of considerable debate. This study imperially explores the impact of debt financing on the profitability of the firms in Chemical Sector of Pakistan. The rationale behind the industry specific analysis is the fact that exogenous variables appear to force firms in the same industry in similar fashion. Therefore firms within same industry construct same type of capital structure. OLS has been applied to test the hypothesized relationship. Different perspectives have evolved over the period of time to explore the critical but very complex issue of financial structure decisions. Financial structure decisions base on many psychological and situational factors especially in developing countries like Pakistan. Financial Environment has great impact on financing decisions, the role of financial institutions is critical for capital restructuring decisions. In developing countries like Pakistan Financial Markets are incomplete and are unable to meet the financing requirements of the industry. Therefore, major source of debt financing for Pakistani companies is various types of loans with different maturities. Our results are not similar to the other studies conducted on capital structure. In oppose to literature our results reveal significant negative relationship between long term Debt and firms' performance and significant positive relationship between short term debt and the profitability.