Components of Capital Structure with Diagram

Components of Capital Structure

Capital structure involves different sources from which the required long-term capital is collected by the company. It differs from financial structure.

Cost components of capital structure are given in the diagram below.

Image credits © Manoj Patil.

Optimal capital structure are follows:

Shareholder's Funds (owned capital)

1. Equity Capital
2. Preference Capital
3. Retained Earnings

Borrowed Funds

1. Debentures
2. Term Loans
3. Deposits

Determinants of capital structure are discuss in brief:

Shareholder's Funds (Owned Capital)

In components of capital structure, shareholder's funds (owned capital) means funds provided or contributed by the owners. It is also known as owned capital or ownership capital. Various constituents of owned capital are:

1. Equity Capital

In components of Capital structure, equity share capital represents the ownership capital of the company. It is the permanent capital and cannot be withdrawn during the lifetime of the company. They are the real risk bearers, but they also enjoy rewards. Their liability is restricted to their capital contributed. Equity shares are popular among the investing class. “Equity Capital is also known as 'Owned Capital' or 'Risk Capital' or 'Venture Capital.'”

2. Preference Capital

In components of capital structure, preference shareholders are also owners of the firm, and they get preference regarding payment of dividends and repayment of Capital. They are cautious investors. Preference Shares carry a stipulated dividend. Preference Shares are of different types such as:

• Redeemable and Non-Redeemable,
• Convertible and Non-Convertible,
• Cumulative and Non-Cumulative preference shares.

3. Retained Earnings

In components of capital structure, instead of distributing all the profits to shareholders by way of a dividend, the firm retains / keeps / saves a part of the profit for self-financing. Retained earnings constitute the sum total of those profits which have been realized over the years and have been reinvested in the business. Thus, it is also known as self-financing or ploughing back of profits. Thus, it is also known as self-financing or working back of profits.

Borrowed Capital

Borrowed capital is the amount raised by way of loans or credit. Various parts of borrowed capital are:

1. Debentures

In components of capital structure, debenture capital is a part of borrowed capital. The creditors of the company are the debenture holders. Different types of debentures are issued for the convenience of investors.

2. Term Loan

In components of capital structure, organizations can obtain long-term and medium term loans from banks and financial institutions. Further, banks advance loans in US dollar. Term loans are repayable by installments. For obtaining term loans, collateral security has to be offered by the organization.

3. Public Deposits

Public deposit means any money received by a non-banking company by way of deposit or loan from the public, including employees, customers and shareholders of the company other than in the form of shares and debentures. Companies prefer this method as such deposits are unsecured. A company can accept public deposits for a period of up to 3 years.