Capital Structure Analysis

Capital structure analysis

Introduction

The importance of a company's capital structure nowadays has become the subject of heated academic debate. In general, there are two sources of capital: debt and equity. Based on Denzil and Antony (2004), it is usually rational to finance any business project with a combination of these two in order to fulfil the changing objectives of the firm. Equity finance represents the highest level of risk due to both uncertainty of dividend payments and capital gains, and the ranking when a company goes into liquidation. While there is no uncertainty of debt finance unless a company is likely to be declared bankruptcy and also debt financing enjoys some tax advantage. However, according to the financial analysis of Jessops (2008), a very high level of dependence on debt finance does not allow the firm to take the advantage of tax benefit, conversely making the firm vulnerable to buyout due to very low payment of dividend that the share holders may no longer be interested in the continuation of the situation and the company faces bankruptcy risk. Therefore, it is very important to determine the proportion of financing through debt and equity respectively.

In this paper, an attempt has been made to examine Wal-Mart's capital structure. It estimates the company's cost of equity and debt as at the latest balance sheet date and contains a description of how the company's capital structure has changed over the three year's data by using the dividend growth model. The analysis and valuation will be supported by graphs, tables and some numerical calculations which showing the financial growth, trends and ratios of Wal-Mart over three year's period. Furthermore, it will explain the reason why the company has adopted the capital structure as identified by the results have been calculated. Besides, the explanation will be based on traditional and modern capital structure theories and some background of the Wal-Mart and the retail industry it operates in.

Company description

Based on the articles on the official website 'walmartstores.com', Wal-Mart is the world's largest retailer, which operates nearly 8,159 stores and club locations in 14 markets employ more than 2.1 million associates, serving more than 176 million customers a year today. Store types include discount stores, warehouse stores, and mixture of discount and grocery stores. In addition, Wal-Mart also sells its products online through the internet. It continuously offers low prices and a broad range of merchandise. However, it doesn't compete only in discount and clothing, but also in other important categories such as health and beauty products, sporting goods, electronics, as well as toys. The following tables illustrate the financial results of Wal-Mart throughout the period from 2007 to 2009.

Based on the above financial results, it's clear that Wal-Mart is considered a healthy company with steady growth of return. In 2009 financial report, it is obvious that a decrease in the ratio of debt to the total capital primarily due to decreased borrowing levels which results from the current economic environment has made it difficult to receive new financing. But the 2009 financial figure seems favourable. Wal-Mart is still able to keep up the business profitably without considerably decline primarily due to the managers' efforts to control expenses and sell higher margin products allowing it to reduce debt and pay dividends while investing heavily in capital projects. In addition, there is a slight decrease in the increase rate of net sales in FY 2008 and 2009 which mainly results from the unfavourable impact on the foreign currency exchange rates and the global store expansion programs.

Retail industry development and trends

From the stock analysis of Wal-Mart Stores taken by Dulce