THE EFFECT OF FINANCIAL LEVERAGE ON COMPANY PERFORMANCE

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THE EFFECT OF FINANCIAL LEVERAGE ON COMPANY PERFORMANCE

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

Firms at every stage of growth and development, from concept to maturity need found in order to survive. The aim of every business is to maximize the wealth and welfare of its owners.

Without finance, the aim of every business cannot be met. This finance can be said to be the life wire of any firm without which there can be no survive. Financing is the acquisition of cash or other assets through means such is the sale of stocks, retaining net profit and increasing of dept. A firm’s capitalization consists of internally generated founds and due to the fact that a company may not be able to rise al the founds which it requires internally, it may depends on additional external financing.

This capitalization of the firm would therefore incorporate both internally generated founds and external found which comprises loons both short terms and long terms and bonds.

Financial leverage, the subject matter of this study, has to do with the use of external, founds in generating profit for the firm which is primarily the maximization of shareholders wealth and welfare. Leverage invalids the use of external financing to act as qa higher than could be reached without its use. Usually, there exist varying financing structures. A simple common stock structure is one whereby no use is made common stock structure does not have the ability of enjoying the advantages of financing leverage. The use of financing leverage causes the financial structure of a firm being simple and also the impact the owners have on the firm increases by the issuing of common stuck whereas the claim creditors have on the firm increases with the use of borrowed founds.

Leverage therefore is greatly considered when investment is being undertaken by investors. By this investors prefer a firm that is less levered than one that is highly levered.

However, the level of activity that can take place in a firm depends on the level of activity that goes on in the economy. The economy has a direst effect on the activity of the firm and as such firms with debt financing also.

1.2 STATEMENT OF THE PROBLEM

Companies that use dept and equity as a source of financing are bound to face some ups and downs. The Nigeria Bottling PLC tend to face:

i) At some point in time there exist indiscriminate issue of common shares to the general public, to this background, it result in the dilution of corporate control. This is usually the case, if there are no pre-emptive rights entrenched in the regulation of the company.

ii) The use of order dept instruments and common stock give the new common stock owners the right to enjoy the same source of profit as the long standing holders of common stock in the organization. This is unfair to the existing shareholders, who have toiled over the years with the firm.

iii) Dividend payment to the owners of the equity are not a tax deductible expense. To (Nigeria Bottling Company) dept instrument were used for financing, to this effect, interest payment on such instruments should be tax deductible.

iv) Excessive use of dept and equity might result in over categorization of the firm hence a decline in the further earnings

v) Indiscriminate use of dept and equity as a source of financing eliminates the benefits of trading on equity.

vi) The cost of floating new issues is often very prohibitive, the founds expended in investigation and underwriting stock and dept is for in access of the cost used in issuing dept instruments.

1.3 OBJECTIVE OF THE STUDY

The objective of the study includes the following:

1. To analysing the possible effects of financing leverage on the performance of the company.

2. To establish the relationship between the level of dept carried by the company

3. Also with regard to the economic condition that prevail, to find out its effect on the company cost of capital

4. To analysis the dept and equity which might result in over capitalization of the firm.

5. To investigate and underwriting stocks and dept in the excess of the cost used in issuing dept instrument.

6. Finally, the sector of the economy within the company operated would be critical reviewed in order to find out how it affects the operational of the firm therein.

1.4 RESEARCH QUESTION

In-order to elicite information from respondents, the following research question were generated:

1. How can the effects of financial leverage be analysis on the performance of a company.

2. What are the relationships between the level of dept carried out by the company?

3. In which can the economic condition prevail to find out its effect on the company cost capital.

4. In analysing the dept and equity of the company performance (The Nigeria Bottling Company), on capitalization, what are the things are likely to result.

5. How do we investigate the stock and the dept in the access of the cost used in issuing dept instrument.

6. What are the effects of the operations of the fir, of the economy within the company operated?

1.5 RESEARCH HYPOTHESIS

HYPOTHESIS 1

HO: The economy environment without the period of study does not effect the level of dept financing by the firms under study.

HI: The economic environment within the period of study effect the level of financing by the firms under study i.e. the Nigeria Bottling Company.

HYPOTHESIS 2

HO: The level of dept financing employed does not effect the performance of the firms under study.

HI: The level of dept financing employed effects the performance of the firms under study.

HYPOTHESIS 3

HO: The state of economy measured by the grass domestic project does not affect the performance of Nigeria Bottling Company PLC.

HI: The state of the economy measured by the grass domestic products the performances of the firm under study.

NOTE:

HO: Implies Null Hypothesis

HI: Implies Alternative Hypothesis.

1.6 SIGNIFICANCE OF THE STUDY

The significant of the study is to enable us to evaluate how the economy effect the performance of the Nigeria Bottling Company PLC.

This study will therefore enhance an understanding on how financial leverage can be said to thrive well in an economy that is forming in that as dept employed more founds to increase, for investment and as such profit fends to increase.

The study will be of almost importance to the school library, students in management and for future project writers and research who will wish to use it as reference to their own study.

1.7 SCOPE AND LIMOTATION OF THE STUDY

The scope of this study centers around the company within the manufacturing sector of the Nigerian economy. “NIGERIA BOTTLING COMPANY PLC”. Analysis on the company. I.e. historically. Operationally and structurally. Ration analysis would also be carried out in order to reach a final objective conclusion

The limitation of the study includes data, since data used are only data in published reports for financial analysis. The confidentially of such data the firm reserved to themselves. Given the economic trend i.e. inflationary effects which affects the level of activity of the firm, which includes firm with dept financing also.

1.8 DEFINITION OF TERMS

1. FINANCE

This is the system by which the income of a company is raised and administered. It deals with methods for supplying capital needed to acquire, development and operate real property

2. FINANCING INVESTMENT

This id the purchase of sound stock or bound compared to real investment in a capital asset such as real estate or plant and machinery.

3. FINANCIAL LEVERAGE

This is the use of external financing in order to raise the profit of the company that employs it. It has effect on the per share earnings of the common stock of a company when large sums must be paid for bound interest or preferred stock dividend on both, before the common stock is established to share in earning

Financial leverage may be advantageous for the common stock when earning are good enough but may work against the common stock when earning decline.

4. DEPT FINANCING

This is the long term borrowing of money for business, usually in exchange for dept securities, for the purpose of obtaining working capital or other founds necessary to operational needs

5. EQUITY FINANCING

This is the acquisition of money for capital or operating purposes in exchange for a share or shares in the business being financed.

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