Question

Answer in brief.

Define capital structure and state it’s components.

Answer 1

Definition:

“A firm’s capital structure is the relation between the debt and equity securities that makes up the firm’s financing of it's assets”.

Components of Capital Structure:

There are four basic components of capital structure. They are as follows :

1. Equity share capital: It is the basic source of financing activities of the business. Equity shares are shares which get dividend and repayment of capital after it is paid to preference shares. They own the company. They bear the ultimate risk associated with ownership. They carry dividends at a fluctuating rate depending upon the profits.
2. Preference share capital: Preference shares carry preferential right as to payment of dividends and have priority over equity shares for return of capital when the company is liquidated. These shares carry dividends at a fixed rate.
3. Retained earnings: It is an internal source of financing. It is nothing but a ploughing back of profit.
4. Borrowed capital: It comprises the following:

1. Debenture:
   It is an acknowledgement of loans raised by the company. Company has to pay interest at an agreed rate.
   
2. Term loan:
   Term loans are provided by the bank and other financial institutions. They carry a fixed rate of interest.