The reciprocal relationship between profitability and capital structure and its impacts on the corporate values of manufacturing companies in Indonesia

Abstract

PurposeThe purpose of this paper is to investigate the reciprocal relationship between profitability and capital structure and its impacts on the corporate values of manufacturing companies in Indonesia.Design/methodology/approachThis research is a quantitative research using the general structural component analysis as the analysis tool. This research involved a number of manufacturing companies registered in the Indonesia Stock Exchange in 2008‒2015 period.FindingsProfitability has a negative significant influence on capital structure, indicating that profitability is a determining factor upon the corporate capital structure. This finding also implies that the improvement in profitability in the forms of return on investment, return on equity and net profit margin triggers decrease in the proportion of debt within the capital structures of manufacturing companies registered in BEI or Indonesia Stock Exchange.Originality/valuePrevious research only addressed the one-way correlation between profitability and capital structure, whereas this research measured the two-way correlation and reciprocal relationship at the same time. This research measured the influences of profitability and capital structure on the corporate value, in order to find a consistent finding that has not been yet obtained in previous research. This research also attempted to find out whether the use of the same variables within different time and setting (in Indonesia) leads to different results. The inconsistent findings also motivate the researcher to re-explore the reciprocal influence of corporate profitability on corporate capital structure and its effect toward the corporate value.