1

Subject Area: Business Administration

Supervisor:

Topic: The impact of capital structure on the Hospitality Sector in the UK

2
Abstract:

A capital structure decision is an important discussion among scholars of finance thus there existed
controversies on the issue. Till this date scholars of finance have not come to a conclusion on the
optimal capital structure of firms. That is if there is a correlation between capital structure and
performance of firms. As Gill et al. (2011) opined with different types of theory that tried in
explaining the optimal capital structure that despite the fact that there are many theories tried to
explain the optimal capital structure organised studies in finance have not found a model in
determining a Capital structure that is optimal.

There have being various studies that have examined the choice on performance in developed
countries and large firms in the UK. In developed countries such as the UK different areas have been
studied but in the Hospitality sector the sector has just started to thrive thus there are not much
studies and this study will contribute to knowledge by investigating the impact of capital structure in
the hospitality sector. In view of this the main focus for this study is to inv

According to Salim et al (2012) the decision of finance is set by management is an important factor
that determine the optimal capital structure. The firm management has to set their capital structure
in a way that will maximise the value of the firm and this decision is important to them.
Nevertheless, firm’s level of leverage differs and their managers try their best in attaining an optimal
capital structure.

3
Chapter 1

Introduction:

1.1 Background

The choice of finance either internal or external financing is a major concerns for firm. Capital
structure and its impact of the value of firm and its performance is a puzzle in finance literature
and corporate finance theory. The theory of capital structures that are based on large firms have
failed in explaining optimal mix of debt and equity. Hence the choice of capital structure is an
issue that is critical for both large and small firms.
The economic downturn of recent in 2007-2008 ushered in the focus that is recent on polices of
working capital. A major scope of working capital management that is critical is the influence of
liquidation and profitability. The possibilities of bankruptcy existed despite the fact that
profitability is a case of mismanagement of working capital. Working capital is about the assets
that are current and current liability which are part of the total assets of a firm. When there is an
extra investment on assets that are current it results in lower investment.
Nevertheless, it is assumed organisations with lower current assets will encounter issues in their
process of business. The efficiency of capital management is about the trade of between risk of
short term debt default and the avoidance of overinvestment in assets that are current
(Raheman and Nasr, 2007).

According to Banos –Caballero et al (2013) suggested the amount needed to increase receivable
and inventory for working capital need funding that is costly but this decreases the return of the
firm due to the fact that assets are low when generated. Correspondingly, when receivables are
decreased and inventories are used as working capital the mitigation of firms sales will itself
lower the value of the firm. Both situations as explained above may result in inefficiency of the
firm’s performance.
Modigliani and Miller (1958) opined in a free capital market economy , firms strategy do not
have impact on their value, but the later suggested the value of the firm can be increased when
capital structure is changed due to tax advantage of debt. MM (1958) opined in every restrictive
assumptions of perfect capital markets, argue that under very restrictive assumptions of perfect
capital markets, speculators homogenous desires, tax exempt economy and no exchange costs,
capital structure is superfluous in deciding firm esteem. Financial specialists get a kick out of the
chance to purchase underestimated offers and offer offers of exaggerated offer to get a wage.
As financial specialists misuse these arbitrage openings the cost of the exaggerated cost will fall
and the underestimated offers will ascend, until the point that the two costs are equivalent.
However these presumptions don't hold in reality. Writing recommends that there is an ideal
capital structure; however there is no particular approach to guarantee them to accomplish an
ideal obligation level. However monetary hypothesis provides some assistance in seeing how the
picked financing blend influences the firm s esteem.

4
 Firms may have ideal working capital prompting their esteem expanding (Deloof, 2003).
Importance of this issue for the two firms directors and furthermore speculators have
determined considerations to look into its effect on association's execution and conceivable
monetary trouble.

1.2 STATEMENT OF THE PROBLEM.

For a while now the connection between capital structure and the performance of firm is a
subject of debate that is global and intense and there are not enough studies to support the
argument. For over fifty years of research, there is no consensus agreement on how capital
structure impact on the value of firms performance. Although different studies and result over
the last decades have demonstrated that capital structure is important in the simplest model by
Modigliani –Miller.

Attention has being paid by finance literature on the relationship that existed between capital
structure and the performance of firm. The reason for this is that, it is one of the controversial
areas in finance literature. The controversy which is inconclusive was originated by the theory of
Modigliani and Miller (1958) who opined that there is no optimal capital structure and thus he
believed that capital structure decisions are of no importance to firm’s value. The notion
generated a lot of debate from different scholars among who are (Stugliz 1969, Miller 1977, Ross
1977, Jessen and Meckling 1980, Myers 1984 and Rajan 1995 among many others.

A recent study Bartiloro and Iasio (2012) in their study of late gave insights into how financial
events of late have an effect on firm’s capital structure. According to Varian (1989) the
attraction of economic theory is that it describes polices that will improve the lives of people.
The theory suggested that financial systems that are developed stimulate growth of the
economy by improving efficiency when resources are allocated to production unit.
The method of transferring funds that was saved to productive users is developing continuously
(Allen and Santomero, 1998). Nevertheless, innovations in finance of recent benefited
intermediaries of finance as this is evidenced by increase in fiancé that is significant in
transactions between financial intermediaries and non-financial intermediaries.
In view of this the balance sheets of organisation is show casing connections among financial
intermediaries, arguably, a reciprocal that is mot strong and a relationship that is beneficial
between financial firms and non-financial firms

According to the studies of Ebaid (2009) capital structure influence is weak on the performance
of financial listed organisation in Egypt. He used three accounting measurement of finance in his
studies and they are Return On Asset (ROA), Return On Equity (ROE), and Gross Margin (GM),
the result indicated that capital structure (particularly short-term debt and total debt)
measured by ROA have a negative impact on an organization’s performance. Also, capital
structure (including short-term debt, long-term debt and total debt) measured by ROE and GM
have no significant impact on an organization’s performance.
The studies of Tian and Zeitun (2007) reveals that firm’s capital structures have a noteworthy
and impact that is negative on the firm’s performance measured in both the accounting and

5
 market measures. Without a doubt, a well credit of capital structure will pilot to the
accomplishment of organisation.

According to Pathak (2011) in his findings he suggested that debt level is negatively significant to
performance of firm and this findings is not true when compare with most studies done on
western economies but it is consistent with economies of underdeveloped countries such as
Asia. He opined the reason for this conflict is because of the high borrowing in countries that are
developing such as India when compared with developed countries in the western world.
The investigation by Khan (2012) is consistent with the argument of Jensen and Meckling (1975)
on the agency cost model as there was no significant impact of efficiency on leverage. Although
evidence existed towards nonlinearities in the relationship between ownership structure type
and firms performance and capital structure.
As a result, issues confronted by capital structure that may have impact on corporate finance
must be looked into. A study that will look deeper into the issues would be an added advantage
for the future. Professor Stewart Myers, in his presentation of the pecking order theory of
capital structure in 1984, made reference to the conflicts in all the theories of capital structure
the called it “the capital structure puzzle”.

The puzzle been compounded by the difficulty of coming up with test that is conclusive of the
competing theories. Various theories have been suggested by investigator on this topic. The
theory leads too many different versions, and in some ways opposed decisions and outcomes.
There have been a lot of question that has been raised on the subject of capital structure , yet
there is no conclusion on an a definite answer..

i. How should a firm choose its debt-equity ratio to maximize its value
ii. ii. What are the critical factors in determining the target leverage ratio for the company
Capital structure and how it relates to value of the firm?
It is with this background that this study sought to investigate the effects of Capital
structure to firm’s performance in the stock exchange in the UK

1.3 Purpose of the Study :

The purpose of the study was to investigate the effects of capital structure on firm value of
selected firms in the hospitality sector in the UK on the stock exchange

1.4 RESEARCH OBJECTIVES

This research is aimed to following objectives:

• To look into the relationship that existed between capital structure and financial performance of
the hospitality industry in the UK

6
 To find out the relationship between capital structure, investment, agreements and loans and the
impact on the performance of an organisation.

• Measuring the impact of the capital structure, investment cost, agreements and loans to the
financial performance of hospitality industry in the UK.

1.5

RESEARCH QUESTIONS:

The studies will conduct and looked into the following questions.

• Is there a relationship between capital structure and financial performance in hospitality industry
in the UK?

• Is there a relationship between capital structures, cost of capital and loan commitments of
hospitality industry in the UK?

• IF capital structure or the cost of the investment agreements and financing activities has impact on
the financial performance of hospital industry in the UK?

1.6

1.6.1

The framework for the study will indicate the relationship that existed between the capital
structure and performance of finance.

7
Source: Edward and Pointon (1984)

For this study the independent variable is the capital structure and the dependent variable is the
financial performance. According to different studies such as Fama and French (2002) Booth et al
(2001) and Wald (1999) they all suggested that the relationship that existed between capital
structure and financial performance is inversely correlated. In their studies evidence that was
empirical was provided in support of the negative relationship between debt and the performance
of organisations.

It was assumed that the relationship between the dependent and independent variable was to be
negative. A relation that is opposite between the capital structure and the cost of capital and a
relation that is positive between capital structure and cost of capital and loan obligation was argued
by Dhankar et al (1996) in the studies on capital cost.

The investigation was conducted for the capital structure and value of an organisation that is
optimal. A change that was negative was noticed in the cost of capital structure and investment and
this was for the fact that capital was increasing debt. Debt cost is lower than the cost of investment
and this was so because payments on interest are free from tax.

1.6.2 Importance:

The studies envisage that the findings will be useful for the economics of the industry and it is
focussed on the role of capital structure in the determinant of financial results. The study will also
inform researchers about the importance of capital structure of any business, and highlight areas for
future research

Chapter 2

Literature Review

Introduction:

2:0

The chapter will introduce the hospitality industry in the UK and it will decide on the numbers of
organisation that will be used for this purpose. Furthermore, the literature review of the impact of
capital structure on firm value will be discussed. Using the MM theories there would be a brief
introduction of the theories. MM (1958) argued that in a capital market that is perfect, the

8
strategies of the management do not have impact on firm value, however they later suggested that
the value of a firm can be increased when the capital structure is changed due to tax advantage of
debt.

2:1

The economic contribution of the UK hospitality Industry:

The UK hospitality industry is broad as it contains different categories of people that start form a
single person to global corporations. There are over 80 types of different types of job in the industry.
The industry is a major contributor to the UK economy as it covers the provision of accommodation,
meals and drinks in places that is outside the home.

The hospitality industries contain business organisations that provide accommodation, meals and
drinks in venues outside of the home. These services are provided to UK residents and overseas
visitors. The industry is not just hotels and restaurants there are other sector numbering up to 12 in
the Industry.

Structure of the Industry adapted from the UK Hospitality industry.

The hospitality industry makes a major contribution to the UK economy and employs a large
percentage of people. In some parts of the UK, the industry is the main source of income and
employment (British Hospitality association 2015).

In the year 2014 the employment rate in the UK is about 9% at 2.9 million jobs. From 2010-14 the
industry accounted for 17% of total UK employment. In the UK, over 180,000 hospitality and leisure
establishments existed and they employ more than 2 million people which are about 7% of the
country workforce.

9
Source: BRES, LFS, OXFORD ECONOMIC

The industry is group together as a single industry but it should have been two the hospitality and
tourism industries should be viewed as two individual, though both sector overlaps. The tourism
industry is seen as the actions of people roving to and residing in a place which is outside their usual
environment for not more than one consecutive year for leisure purposes.

Adapted from British Association (2015) a report prepared by Oxford Economics for the British
Hospitality Association

10
2: 2 Structure of Finance

Organisation financial decisions are shown on the financial statement and it is known as profit and
loss statement, statement of cash flow and balance sheet. The balance sheet indicates the scheme
of finance that is used in executing investment.

Organisation investment is the firm’s assets; and the liabilities used in financing the debt and the
method of contribution to equity give rise to it. The investment in total (asset) is financed fully by
(liabilities plus equity.) The structure of finance can be identified with the debt / equity (D / C) ratio,
as example the ratio between the amounts of debt (liabilities) and equity (net assets). Relationship is
seen as the hope of the organisation and what is demanded by the creditors and investors.

More resources have being invested by the creditors than the investors and this is due to the fact
that their confidence is high in the business or a hedging mechanism has being chosen. With this
there is guarantee on the assets of the organisation or investors. The equilibrium to finance might be
50-50 % of equity; but is based on industry relationship, business type and the creditors and
investors nature. In this view investment that is performed with a ration of 1-3 does not indicate
that the owners rely solely on business creditors.

This clearly shows the integrity of the organisation at a point in time and the capacity to negotiate
for investors and creditors. The organisation cost of capital is based on the structure of funding for
example the difference of cost in running the investment and the debt/equity.

2.3: Theoretical Issues of the Research

Capital structure theory is a major topic among scholars of finance as its significance is derived from
the fact that capital structure is related tightly to the ability of organisation in fulfilling the needs of
their shareholders. In the past century we have witnessed the development of new theories
continuously on the optimal debt to equity ratio. The issue began with the MM (1958) theory on the
Irrelevance of the capital structure to determine the value of firms and their future performance.

Nevertheless, many scholars have proved successfully that there exists relationship between capital
structure and firm value (Lubatkin and Chatterjee, 1994). Modigliani and Miller (1963) further
asserted that their model was no more in effective when a tax is taken into consideration. Capital
structure decision is all about determination of an appropriate Long-term source of finances. This
task according to Brealley and Mayers ( 1988) is difficult for management and their words

“It cannot be argued that debt is better …….. In some instances it is better but worse in others.
“How capital structure is chosen by organisation?" Nobody knows the answer ...” Very little we

11
know by contrast, about capital structure. How firms choose the debt we do not know, equity or
hybrid securities they issue. It is of recent that we have only discovered that changes in capital
structure convey information to investors’’

2:4 Different theories of capital structure

2.4: 1. Modigliani-Miller’s theorem (1958) Modigliani and Miller have been the primary to set up a
theory of most effective capital structure. With this theory, they advanced propositions: (1) the
primary claims that the level of leverage of a company does no longer have an effect on its
marketplace fee, which is steady regardless of the proportions of debt and fairness chosen in
financing the organization, (2) the second one proposition describes the weighted common cost of
an corporation as being unaffected by means of the corporation’s leverage. even though it does now
not think about the financial disaster fees, the taxes and the opposite expenses of agent and
however it does now not distinguish between natural and felony people while referring to the
lending method, Modigliani and Miller's theorem is taken into consideration the most critical
reference from the whole idea of capital shape (Modigliani and Miller, 1958).

2.4:2. Trade-off theory

The trade-off theory sprang up because of discussions at the Modigliani-Miller theorem, claims that
a company will borrow as much as the factor wherein the marginal price of the tax reduction or tax
shield on the interest paid for the gotten smaller loans can be balanced by an increase inside the
present fee of the financial disaster costs (Myers, 2001). The improvement of a classical model of the
exchange-off idea become finished by using Kraus and Litzenberger (1973) who confirmed that the
marketplace fee of a leveraged corporation is identical to the marketplace price of a agency which
does no longer rely upon leverage at all, plus the prevailing value of the tax reduction on the interest
paid on money owed, less the existing price of the bankruptcy costs; in line with it, the finest degree
of debt of a enterprise reflects an equilibrium between the bankruptcy charges and the tax
advantages of debt.

L The essence of this concept is that it allows setting a goal rate of borrowing, which varies in
keeping with the enterprise characteristics; in trendy, groups with high-quality opportunities for
growth, however additionally the least profitable companies, with a excessive percentage of modern
assets could have a low degree of debt at the same time as huge businesses with strong coins-flows
and a excessive proportion of noncurrent tangible assets might be highly leveraged (Myers, 2003).

2.4:3. Pecking order theory

Elaborated by Myers (1984) and Myers and Majluf (1984), the pecking order theory argues that
because of the information that is asymmetry between managers and their shareholders with
investors, investment is finance first by organisation by sources that are internal, then they consider
borrowing from external capital, and finally by using the equity provided by shareholders (Myers
and Majluf, 1984 ). Normally because of this information that is asymmetry, investors that are
existing will not favour the issuance of new shares for new potential investors, this for the fact that

12
they believe the latter, will ignore the intrinsic value of the assets and of the business’ opportunities,
will ask for high returns to offset the risk of their investment, in so doing the income of the current
shareholders are reduced.

2.4:4 Agency theory

Unlike the theories presented above, the agency theory assumption is that the interests of the
managers and the shareholders are not the same, although the managers act as agents for the
shareholders, they do not always act in favour of the best interest of the investors, as they will
pursue their personal benefits (Jensen and Meckling, 1976). Jensen and Meckling (1976) introduces
the agency concept costs, which in their opinion contains the expenses that is incurred by principals
who monitors their managers, the costs that is concern with the obligations of the agents and other
losses that is residual. Additionally, they made emphasis on two types of conflicts of interest that
generate agency costs: there are conflicts that arise between shareholders and the managers that
run the organisation, and conflicts between creditors and shareholder and this arises when level of
debt increases in the firm and shareholders seek to obtain benefits on behalf of the creditors in
view of default.

2:4:5. Market timing theory

Even though it does now not define a most excellent capital structure, the marketplace timing idea
suggests that a few unique situations of the capital market and the macroeconomic situations within
a country may additionally affect the shape of the capital of the corporations indexed on an trade.
Looking to be in synchronization with the market implies that businesses might issue stocks at a
excessive price after which try and redeem or buyback those shares at a decrease rate. The
beneficiaries of this practice are the existing shareholders and the managers who pursue the
interests of the investors, are anticipated to synchronize with the market (Bakar and Wurgler, 2002).
In reading the financing alternatives adopted by using companies, the theories on capital structure
constitute a essential foundation for evaluation due to the fact, except the theoretical assist that
they have evolved, they've also identified possible determinant factors that could give an
explanation for the capital preference decisions of a organisation. ( Serghiescua et al (2014))
Procedia Economics and Finance 15 ( 2014 ) 1447 – 1457 Determinant factors of the capital
structure of a firm analysis.

2.5 Capital Structure Determinant

Capital structure is known as the firm framework for finance and this consist of the debt and quity
that is used in financing the firm. The organisation ability in fulfilling the needs of the stakeholders
is related to capital structure tightly. Thus, the source is a significant factor that we cannot do
without. As Saad, (2010) argued in a financial term capital structure is the means whereby
organisation finances their asset with a combination of equity, debt, or hybrid securities

In a nutshell the capital structure of an organisation is the combination of the debts (shot term or
long term) the equity that is common and the equity that is preferred. Capital structure is important

13
on how organisation uses its finance in determining the growth and operations with different
methods of sourcing funds. As suggested by Myers (2001), “no theory of universal debt-equity
choice and we should not expect one”. However, there existed several useful conditional theories3,
each of that helps in the understanding of the debt –to-equity structure chosen by organisations.

As Myers (2001) argued capital structure comprises of securities and sources of finance used by
organisations in financing real investments. Capital structure is the mixture of debt, stock that is
preferred and equity that is common in which organisations uses in increasing is capital. The
investment is made by firms in view of remaining in business and display growth. Firm’s capital
structure is also known as the financial structure of firms. The capital structure of a firm is very
important since it related to the ability of the firm to meet the needs of its stakeholders.

Important ways for firms to obtain fund for their operations is by both debt and equity financing.
The decision by the management in deciding on the long terms goals of the organisation couple with
the control managers which to exert. In an ideal world, professionals on the field that firms should
use both debt and finance with an acceptable ration commercially. The mix of the ratio is what is
known as ratio debt-to-equity ratio, which is major factor used by analyst in determining if managers
run their business a profitable manner. The debt to equity ratios differs from industry to industry but
a general rule holds that a ration that is reasonable would be between 1.1 and 1.2.

2.5.1 Debt Financing

Financing by debt is money that is borrowed basically to run business. The borrowing of funds in
order to finance a purchase, acquisition or expansion is known as debt financing. The debt financing
of corporations is about the selling of notes, bonds, mortgages or other debt instruments. The
financial institutions that provide the debt financing are known as creditors. As financing of debt is
about borrowing of funds thus it must be repaid, in general in instalments and with interest. The
amount to be paid back as interest on the finance debt is determined by the worthiness of
organisation, what the fund was used for and the current financial status of the organisation.
Organisations sees debt financing to be attractive due to the fact that interest paid is deducted in
taxation.

Debt financing is divided into categories and this reflects the type of loan that is considered, either
short term or long term. Assets of business that are financed are goods such as equipment,
machineries, buildings, land, or machinery. Long term debt financing has a maturity period of 5
years and above. With the medium-term financing the maturity period ranges from 1-5 years.
While finances that short term debt applies to operational money for day to day activities and the
payment of employee’s wages and salaries. It also referred operational loan or short term loan
because repayment scheduled is less than 12 months. As an example line of credit from the bank.

14
Capital inform of loan can be taken from financial house as long term loans, or from investors as
debt equity in the form of debentures or preference shares and this is secured by a floating charge
on the assets on the organisation .

The variables in capital structure choice and structure of debt are many that have impact on firms
performance. Maturity of debt will have impact on an organisation option in investing. Tian & Zeitun
(2007) investigated the impact of capital structure’s variables on company’s performance in
indicating the prove for a company’s performance due to the effect of capital structure.

Abor (2005) investigated the influence of capital structure on profitability of listed companies in the
Ghana Stock Exchange for a five period. His findings indicated that there existed positively
relationship between short-term debt and ROE and it concluded that firms which earn a lot more
when using short term debt in financing their business. In a nut shell in Ghana short term
organisation are in favour of it as it represent 85% of debt in total. Despite the relation between long
term debt and ROE are adverse. Analyis by regression indicate a positive relationship between long
term debt and ROE that measures the relationship between debt and profitability

2.5.2 Equity

Financing by equity is the form of money that is obtained from investors Equity financing takes the
form of money obtained from investors in barter for shares in the business. Funds of such come
from family or friends of the owner of the business or venture capital firms. An investment in equity
refers generally to the buying and holding of shares of stock on stock exchange by private individuals
or firms in view of having an income as dividends or gains from capital when the value of stock rises.

Capital Equity is the investment made by the owners of the business privately in the business. It is
known as risk capital because it is assumed as risk which can be loss in the business when the
business fails. This is not repaid with interest like a loan, but industrialist will have to part with the
ownership of the organisation for investors outside the firm.

Equity is the claim that is residual when all liabilities are paid. When liability is more than the assets
negative equity exists. In the context of accounting, equity of the shareholders or funds of the
shareholders is the remaining interest in an asset of a firm, that is spread within shareholders of
common or stock that is preferred.

When a business is started, money is put into the business into the business for finance operations.
This is liability on the business in view of capital as normally the business stand as an entity that is
from the owners. Businesses are considered for purpose of accounting, the total sum of liability and
assets. When liability is accounted what remains is seen as the interest of the owner. Thus the
equity of the owners’ can be reduced to zero. This is known as risk capital or liable capital.

When all liabilities are deducted in financial accounting what is left is the owners interest. On the
balance sheet the four-major primary statement listed under ownership of equity are as below.

15
 i. common stock or share capital
ii. ii. Ideal stock
iii. iii. Surplus of Capital
iv. iv. Earnings retained / Reserve.

2:5: 3

Firms Age

When firms are older production becomes less when they are increasingly inert and inflexible.
According to Barron et al (1994) firms that are old are likely to be affected by liability of
obsolescence, this is because they are not adapting to the changes in the business environment and
the liability of senescence in which they are ossified by rules that are accumulated and the routines
of structure of the organisation

The performance of the organisation can be affected by age because of the organizational rigidities
and inertia it brings about (Hannan and Freeman, 1984; Leonard-Barton, 1992) and the inability of
the firms to perceive valuable signals. The cause of it all is the firm inability in codifying their success
with measures of organisation, best practice and rules of conduct. Behaviour like this is sensibly for
the fact that it helps firms focus on their competences that are core and raise reliability and
accountability.

Frielinguaus Mostert and Firer (2005) argued that the firm behaviour can be related to the behaviour
of human being because it goes from birth to death. Aging is linked with a general decline in the
human body due to his physical function, this includes the ability to remember, respond, transfer,
and receive. Analogically, firms are weak over time thus the ability to compete is lost. Nevertheless it
must not supposed to be, in the earlier stages firm incur more debt than at the old stage/ death
stage.

As organisation age advance this might really facilitate firm becoming additional economical. Over
time, firm discover what they're good at and learn the way to try and do things higher (Arrow, 1962;
Jovanovic, 1982; Ericson and Pakes,1995). They specialize and notice ways that to standardize,
coordinate, and speed up their production processes, similarly on cut back prices and improve
quality. Old age, however, may additionally create information, abilities, and skills obsolete and
induce structure decay (Agarwal and Gort, 1996 and 2002). this is often primarily in things wherever
organizations aren't terribly sensitive to the surroundings they are operating in and additionally they
are doing not Empress analysis and development. Pastor and Veronesi (2003) in their analysis found
that profit and market to-book ratios decline with firm age as investors learn and uncertainty
declines. in step with that, the variability of stock returns is negatively connected with incorporation
age (Adams, Almeida, and Ferreira, 2005) and with listing age (Cheng, 2008).

Aging could be a method related to a general decline within the physical functioning of the organic
structure, like the flexibility to recollect, react, move, and hear. By analogy, companies ought to
weaken over time and lose their ability to vie. Age might really facilitate companies become a lot of
economical. Over time, companies discover what they're sensible at and find out how to try and do
things higher (Arrow, 1962; Jovanovic, 1982; Ericson and Pakes,1995). They specialize and notice

16
ways that to standardize, coordinate, and speed up their production processes, similarly on scale
back prices and improve quality. Old age, however, may additionally create data, abilities, and skills
obsolete and induce structure decay (Agarwal and Gort, 1996 and 2002).

Pastor and Veronesi (2003) in their analysis found that profitableness and market-to-book ratios
decline with firm age as investors learn about uncertainty declines. In these regards stock variability
returns is negatively connected with incorporation age (Adams, Almeida, and Ferreira, 2005) and
with listing age (Cheng, 2008). Agarwal and Gort,1996 and 2002 investigated the comparison of
productive potency of corporations at totally different ages. They reported that corporations that
square measure older loses their competitive edge thence poignant their performance. This is often
as a result of previous corporations rigidness thus there is increase to operational expenses, this
leads to decline in share of the market and also a decline in sales growth.

Frielinguaus Mostert and Firer (2005) , states that a firm is analogous to a lifetime of human being as
they passes from birth to death. At the first stage the firm tents to incur additional debt than at the
previous stage/ death stage.

Chapter 3: Research Methodology

3:1 Introduction

The chapter is about the methodology to be adopted in investigating the data to be collected. The
chapter will also investigate the rationale of the studies and it will explain the approach to be used
such as the method of data collection such as the sample selection, technique of sampling, the
amount and the technique that would be used in analysing the collected.

3:2 Purpose of Research

According to Collins and Hussey (2009) they suggested the reason of any investigation is the intent
that is foremost why the investigation is being done. This argument is buttress with the argument of
Saunders (2007) who believes finding the most significant factor in an investigation is a way that is
reliable in view of the impact on knowledge. The major purpose of this investigation to understand

17
the impact of capital structure on the Hospitality Sector in the UK in achieving this we would be
looking at the firms that are listed on the stock exchange in the hospital industry.

The study will not visit any of the organisation selected to administer any questioner but the study
will use the secondary data that will be collected on the London stock exchange and the financial
statements of the firms that are selected. The firm to be selected are trading on the London stock
exchange and there in no criteria to be used in the selection. The study will pick 5 firms of the
hospitality industry in the UK and their financial statements and other annual reports of their
organisation. It will be a period of five years of each organisation and the period will be from 2010 to
2015.

To be considered are various variables such as the total assets, market price share, ROCE , THE debt
equity ratio for a period of 5 years that starts from 2005- 2009. The study will use a descriptive
design that will incorporate both qualitative and quantitative research designed that will address the
question of research in establishing if capital structure impact on firms value of the UK hospitality
industry.

3. 3 Approach of Research:

According to Sanders (2007) there are two striking methods known they are the deductive and
inductive methods that are used in analysing, both are based on the questions that are looked into.
When deductive approach is to be used it requires a logical investigated study that indicates how the
theory will be shaped and this follows a thorough investigation.

The use of inductive approach would involved the devising a theory with the source of data that will
be collected for the period of investigation. In this regard the deductive approach will be adopted
for this investigation for the fact that no new theory would be formed but the use of theories that
was formed in the field early will be used and buttressed. The approach to be used will be
quantitative and qualitative. The purpose of using this method is that I am attesting to a theory and
confirming a hypothesis.

3.4 Strategy of Research

The strategy for this research is secondary data that would be collected from the London Stock
Exchange, Yahoo Finance and from various website of the chosen organisation. The data will consist
of the financial statements of all organisations that detail the profitability; Firm Size, Tangibility,
Liquidity and long term debt ration which is the capital structure of the firm. This method was
chosen due to the mode.

3.5 Design of Study

Finn et al (2000) opined following a line of investigation involves the detecting and revealing
information that are not identified before, unclear or oblige to testing the authenticity of facts that
existed. To conduct a study is creating a process and this involves a method that is appropriate in
collecting data and is analysis. The design of the study is the approach the research question is to be
addressed. As suggested by Allison et al (2000) the design of a study involves the scheduling of the
study methodology and the manner in which the data’s would be analysed and collected.

18
3.5.1 Method of Collection of Data.

Secondary data is the only means of investigating the data. In the investigation a qualitative and
quantitative approach would be applied the sample size is five and this involves the use of financial
reports of selected organisations of the hospitality industry in the UK.

3.6 Validity and Reliability

As suggested by Sanders et al (2007) for having a result that is fair it is important for the investigator
in inspecting the reliability and validity concerns. Reliability looks into our consistence of the
findings, the issue is concerned with the problem of measurement. Having a measurement that is
reliable is about measuring consistently.

3.6.1 Validity

Is about the anxiety on the problem of how to measure what was gathered. The measurement
must be trust worthy and reliable, when measurement fluctuates with proper explanation or any
variable is not in consistence with others, it translates that the measurement is inaccurate and
invalid (Saunders 2007). Different approach was used in ensuring the validity of the study based on
the questions. Among the decision taken was allowing a colleague in going through and reviewing
the annual reports critically?

Chapter 4

Findings, Discussion and Analysis

19
4.1 Introduction.

The chapter is based on the findings that were correlated in the studies of the impact on capital
structure on firms of the hospitality industry in the United Kingdom. The methodology adopted is
the collection of data from the London Stock Exchange , Yahoo finance and websites of organisation
that were investigated as annual reports were collected for a period of 5 years in understanding the
effect of capital structure. Presented are the statistics in descriptive form and inferential. Finally the
chapter ended with interpretation of data, s and discussion.

4.2 Presentation of findings

The investigation was based on the organisations debt component of capital structure in
ascertaining whether a capital structure theory was applied by the organisations chosen. Manual
observation was used in going through the data but it is interesting in looking at the characteristics
of the data that is raw that relates to debt and equity to identify if they are pointing to a direction.

Finance of organisation

The study uses the component of debt of the organisations capital structure in determining if a
peculiar theory of capital structure in the sample selected. Though it would have been good if
statistical software would have been used in determining, it is good in looking at the characteristics
of the data that relates to both equity and debt

20
Chapter 5

5.1 Summary
Capital structure the impact on firm’s value of the hospitality industry in the United Kingdom is
the main focus of this investigation. It can also be reference to how firms gather their debt and
equity that is how does firm finances their assets. In the last 10 years there was a global
financial crisis that has a great consequence thus the choice for management over internal and
external financing have been a choice of concern on a larger front. The choice of capital
structure can influence strongly an organisation value; the prospect of growth in the future and
the continuous existence of growth of the organisation.

In spite of its of significance , to find a point that is best where equity mix that optimised the
best value of the firms is still a target that is elusive, as at today despite all the studies on the
topic, there is no model identified that fully explain a capital structure of a firm that is optimal.

The hospitality industry in the UK felt the impact of the global recession on the industry and
thus there was a downturn on the inbound and outbound activities. The sector is an important
in the UK economy as the consumption in the industry was about 3.3% of the UK gross value
when added (Webber D, et al (2010). They further argued it is understandable the reason why the
sector is adversely affected by the Global economic down. This is due to the fact that both home and
counties in overseas are impacted by the assets value that has fallen with major impact on
unemployment and credit condition is tight.

The expenditure in business that is a key component of the hospitality industry spending is fallen in
line with economic activity and cost are reduced by organisations with the preservation of cash
flows. With the corporate sector and household on the look to rebuild their balance sheets
discretionary components of spending are more are these will cause more retrenchment (0NS 2010).

On the other hand, what is not immediately obvious is the net the effects on spending in the
hospitality industry. For example, the position of the household economic position that is weak and
the organisation can have effect on substitution from foreign to local visit an remark that is known
as the staycation effect. . The effect of the “staycation” is supported with the sterling depreciation
since the start of the global crisis and this makes foreign trips for residents more costly in
comparison with local visit (0NS 2010).

The depreciation of the sterling is an advantage to foreigners has visit are cheaper this is buttress by
the investigation consumer trends indicated that the total net spending has made contribution to
the household consumption in a negative manner during the recession.

The main focus of this investigation is to analysis the organisation of the hospitality industry that
traded on the London stock exchange and investigates what variables that have impact on the
capital structure decisions.
According to tradition most organisations listed on the London stock exchange are admitted to
trade on the main market and any firm have the opportunity of returning to the market to raise
more funds when they are confronted with other issues. The value of the main market should
not be estimated to raise funds. In the recent market conditions the stock exchange was able

21
help in raising capital. Issues that are further confronted by the main market organisation were
dealt with as the stock market provided capital injections that were used in paying off debt,
rebuilding of balance sheets and the funding of further growth.

Capital structure is a significant thing that managers always consider when they have the choice of
making optimal decision that is strategic. The main purpose of the capital structure is finding the
optimal capital structure as it allows the firms in accessing the highest value of any organisation.
Capital structure that is optimal required a trade off between the advantages of tax borrowed
money and the cost of distress that is financial. There is no theory that is universally accepted about
the debt equity choice, however the following theories were considered in the study, the tradeoffs
theory, the pecking order theory, the market timing theory and the agency theory.
The trade-off theory is about the firms searching for level of debt between tax advantages or more
debt against the cost of financial distress that is possible. The pecking order theory indicates the
preference of the firm in borrowing instead of issuing equity, in the view that cash flow is not
enough in funding expenditure of the capital.

The theory of market timing is referred to as the issuing of shares at prices that is high and
repurchasing at low prices, (Baker & Wurgler, 2002). The agency theory investigates the agent
relationship (that are referred to as the managers) and principals (commonly referred to the
shareholders). Managers are motivated in investing funds in business that are risky for shareholders
interest because in the failure of investments, it is the responsibility of the lenders to bear the cost
as shareholders liability are limited. Short-term sources of debt are used, however this may mitigate
the problems of the agency, the attempt by shareholders in extracting wealth from debt holders
will restrict firms’ from accessing a short-term debt in the immediate future.

The main purpose is to investigate the impact of capital structure on the firms of the hospitality
industry in the UK. Additionally, the aim is to identify which theory better explains the capital
structure of firms. The study uses a sample of 5 hospitality organisation in the UK that was listed on
the London stock exchange during the period of 2005 – 2009. The financial statements of this
organisation were used and the information on the financial statements was used; however there
are no criteria in which the firms were chosen.

1. The relationship that is negative between leverage and profitability and leverage and liquidity
indicated that profitability liquid firms does not need to borrow and they should resort to
using internal resources to fund their investment projects.

2. The relationship that is negative between leverage and tangibility suggest that the firms with a
higher level of tangible assets that prevent them from problems of asymmetric information
that did not resort to debt as their first external financing option. Also, agency issues are
minimised by organisation with the management of the problem between the management
and shareholders by the use of debt.

3. The relation that is positive between leverage and size suggested that organisation that are
large resort more to debt for the fact they are diversified the more and this reduced the
likelihood of them becoming financially distressed. Organisational managers thus combine
activities that are diversify in reducing the risk of debt by improving investment
opportunities.

22
5.2 Implications of the theory:

The theory of capital structure has been study extensively and this investigation has not refuted
any of the knowledge that has been provided theoretically. In this view no new theory has been
formed but more knowledge was contributed by the study of the hospitality industry in the UK.
Most of the studies on capital structure are more focus on developing countries and developed
one with information taken from stock exchange of the various countries. However, a published
investigation of the hospitality industry cannot be found as the focus was on a sector of the
industry as a whole.
The findings of the investigation reveals that the dependent variables that were found to be
determinants of capital structure in the industry is also applied to other sectors and the same
applies to developing countries. This assertion makes the study useful and investigators would
have the opportunity in applying the model and the use of the data in other studies that would
be related.

5.3 Implications that is practical.

The studies ascertain that profitability, liquidity, tangibility and size are determinants of capital
structure choice in any settings. Organisations that are listed or unlisted can use these variables in
testing the capital structure of their organisation. The usefulness of this is when a theory has
already been applied base on the study of theory thus another theory can be applied in seeking
other method to verify which the best method is.

The links of this study that is theoretical could help managers in adopting a proactive based
approaching in the choice of their capital structure. The result of the findings indicated that
managers of big organisations can concentrate on diversifications activities that will reduce the
risk of debt in view of improving the investment opportunities of firms. At the same time when
organisations are making profit, the value of the organisation will increase when internal
resources are used in funding growth opportunities. Furthermore, the management should seek
for means of reducing asymmetric information the mixing of assets that are tangible.

The mentioned actions can be done individually or can be combined and this depends on the
needs of the firm and with the focus of the managers consequently on the choices between
internal and external funding for capital projects which would be of benefit to the shareholders.

5.4 Limitations

The investigation is confronted with three limitations and they are considered to be significant.
The first limitation is the problem of sample size, the sample size is five with these number are
general view of the industry cannot be given and we should not forget the industry contains of 12
different sectors thus not all sectors are covered hence the findings cannot be a true representation
of the total industry.
The issue of sample size is discussed in the chapter 3 especially with the impact on the study as
histograms and pie chart are used in the analysis of the information that was retrieved in
analysing the impact on the variables. A regression analysis with the SPSS would have been a
better option as seen with other studies that relates to capital structure.
The firms in the sample does not cover all the sectors in the industry but it is standard practice
that individual sector has its own characteristic that impact on capital structure decisions, thus it
is better in undertaking capital structure test by all sectors that covers the industry.

23
Chapter 6

This chapter is about the conclusion of the investigation and the recommendation of future study
areas in the field of capital structure in relation to the hospitality industry in the UK.
6.1 Conclusion:

The study investigated the capital structure of the firm of the hospitality industry in the UK. The
findings indicate that the industry sector reveals that:

(i) The hospitality firms in the UK in anticipation are capital intensive

(ii) During the global financial crisis the hospitality leverage increase to the control of firms.
When the crisis was corrected the leverage of the firms remained elevated. Once the crisis
was resolved, the leverage of hospitality firms remained elevated. In addition, It was
discovered that in the process of seeking alternate sources of capital, cash were depleted
during the global crisis and that the organisation were issuing debt after the crisis.

6.2 Recommendation:

The result of the study added to knowledge of the understanding of decisions of capital structure in
the hospitality industry in the UK. This study analyses the determinants of the capital structure of 5
sector members from 2005-2009, and at what level the determinants have impact on decision of
leverage.

According to each of the data, organisations that are profitable have debts that are fewer for the
fact that they use retain earnings rather than debt. Tangibility, Size and Growth variables were
confirmed not to have material effect in capital structure decisions on hospitality industry in the UK.
Strong evidence exists in supporting the pecking order theory this is based on the profitability
variable. However, the other theories such as static trade off and agency cost theory cannot be
rejected due to their prediction that is correct of Tangibility, Size and Growth organisation variability.

24
6.3 Further Studies

Studies of the future can contain an analysis of the effect of taxes on capital structure of the
hospitality industry, such as the personal taxes income and the corporate.
This topic has been addressed in Germany by (Faccio & Xu, 2015), but not German firms were
investigated in particular. In addition further study can investigate each sector in the industry by the
application of the variables on each industry. Nevertheless, specific factors should be added into it as
specific factors have an impact on capital structure beyond the firm’s factors that are specific.

References:

Acedo-Ramírez, et al (2014) Determinants of Capital Structure: United Kingdom Versus Continental

European Countries. Journal of International Financial Management & Accounting, pp. 237-270.

AJANTHAN.A. (2013) the determinants of capital structure: evidence from hotel and restaurant
companies in Sri- Lanka. International Journal of Scientific and Research Publications, 3(6)

Akintoye, I. R., 2008. Effect of capital structure on firms‟ performance: the Nigerian experience.
European Journal of Economics, Finance and Administrative Sciences. 7 (1), pp. 233-43.

Baker, M. & Wurgler, J., (2002), Market timing and capital structure, Journal of Finance, 2002, vol.57,
page. 1-32;

Berger, A & Bonaccorsi di Patti, E (2006), Capital structure and firm performance: a new approach to
testing agency theory and an application to the banking industry, Journal of Banking and Finance, 32:
1065-1102.

Boodhoo, R. (2009) Capital structure and ownership structure: A review of literature. The Journal of
online Education, NY, January 2019.

Booth et al (2001). Capital Structures in Developing Countries. The Journal of Finance, Vol. 56., No.
1., pp. 87 – 130.

British hospitality (2015) a report prepared by Oxford Economics for the British Hospitality
Association

Brealley and Mayers (1988) Principles of corporate finance

Dhankar, R. S., & Boora, A. S. (1996). Cost of Capital, Optimal Capital Structure, and Value
of Firm: All Empirical Study of Indian Companies (Vol. 21, pp. 29-36):

25
Chakraborty, I. (2010) Capital structure in an emerging stock market: The case of India, Research in
International Business and Finance, 24: 295-314. Champion, D. (1999), Finance: the joy of leverage,
Harvard Business Review, Vol. 77, pp. 19-22.

Ebaid I E, (2009), the impact of capital structure choice on firm performance: empirical evidence
from Egypt, The Journal of Risk Finance, 10(5): 477 -487.

Khan, Imran (2012), Capital Structure, Equity Ownership and Firm Performance: Evidence from India,
Social Science Research Network, Online Web

Lubatkin, M. and Chatterjee, S. (1994). Extending modern portfolio theory into the domain. of
corporate diversification: Does it apply?. Academy of Management Journal, 37, pp. 109-136

Myers, S., Majluf N., 1984, Corporate financing and investment decisions when firms have
information that investors do not have, Journal of Financial Economics, vol.13, pag.187-221

Myers, S., 2003, Financing of corporations, Handbooks of the Economics of Finance, vol.1A, pag.216-

Modigliani, F., & Miller, M., (1958), the cost of capital, corporation finance and theory of investment,
American Economic Review, vol.48, page. 261-297; 253

ONS (2010) the global recession and its impact on the tourism industry in the UK, Economic &
Labour Market Review | Vol 4 | No 8 | August 2010

Raheman, A. & Nasr, M. (2007). Working Capital Management and Profitability – Case of Pakistani
Firms. International Review of Business Research Papers 3(1) 279 – 300.

Serghiescu et al (2014) Determinant factors of the capital structure of a firm- an empirical analysis.
Procedia Economics and Finance 15 (2014) 1447 – 1457 not changed

Varian, H. (1989) what use is economy theory?

Webber D, et al (2010) ‘The impact of the global recession of tourists’ spending in the UK, Economic
& Labour Market Review 2010 (August).

26