Author
1
Mr. Prasad Daddikar
Assistant Professor
BET’s Global Business School, Belagavi
Cell No.: +919916771502
Email: prasadpq@gmail.com & prasad@betgbs.in
Author
2
Miss Shweta Tarabar
MBA
Final Year Student
BET’s Global Business School, Belagavi
Cell
No.: +919686642590
Email:
shweta.tarabar@betgbs.in
FINANCIAL LEVERAGE AND FIRM VALUE
An Empirical Analysis of Hindalco Industries Limited
ABSTRACT
The Aluminium industry is an essential metal
industry which supplements many developmental activities of a country. Since
the new millennium era, the Aluminium industry has witnessed a paradigm change
in its functioning as the demand for Aluminium is increasing at a swift rate
and many industrial production activities are dependent on Aluminium. The per
capita Aluminium consumption has shown an upward trend during the last decade,
the demand for Aluminium in automobile, consumer durable industry, tools &
machine manufacturing, fabrication sector, etc. grew at an accelerating rate to
support the growth and augment the Indian GDP. This change amplified the demand
for capital investment by firms’ to enhance the Aluminium production facilities
to support the growth of manufacturing. Generally Aluminium producing firms’
are capital intensive and require substantial commitment of capital resources
in order to function efficiently. The purpose of this article was to determine the
influence of financial leverage on firm value with special reference to
Hindalco. This research paper has used secondary data sourced from the official
websites of the company for the period 20112015. The correlation and
regression tests were applied to prove the postulated hypothesis using SPSS to
ascertain the influence of leverage on firm value. Overall findings indicate
that there is significant negative influence of leverage on firm value with
reference to Hindalco Industries Limited.
KEYWORDS
Leverage,
Aluminium, Regression, Capital, Firm Value, Statistics, Correlation
JEL CLASSIFICATION
G30,
G31, G32, G39
INTRODUCTION
A company uses fixedincome securities
such as debt and preferred equity to the degree. The more debt financing a
company uses, the higher its financial leverage. A high degree of financial
leverage means high interest payments, which negatively affect the company's
bottomline earnings per share. Financial risk is the risk to the stockholders
that is caused by an increase in debt and preferred equities in a company's
capital structure. As a company increases debt and preferred equities, interest
payments increase, reducing EPS. As a result, risk to stockholder return is
increased. A company should keep its optimal capital structure in mind when
making financing decisions to ensure any increases in debt and preferred equity
increase the value of the company. Financial leverage simply means the presence
of debt in the capital structure of a firm. In other words, we can also call it
existence of fixedcharge bearing capital which may include preference shares
along with debentures, term loans etc. The objective of introducing leverage to
the capital is to achieve maximization of wealth of the shareholders.
Financial leverage deals with the profit
magnification in general. It is also well known as gearing or ‘trading on
equity’. The concept of financial leverage is not just relevant to businesses
but it is equally true for individuals. Debt is an integral part of financial
planning of anybody whether it is an individual, firm or a company. We will try
to understand it from the business point of view. In a business, a debt is
acquired not only on the grounds of ‘need for capital’ but it is also taken to
enlarge the profits accruing to the shareholders. Introduction of debt in the
capital structure will not have impact on the sales, operating profits etc. but
it will increase the share of the equity shareholders, the ROE % (Return on
Equity).
A high debt/equity ratio generally means
that a company has been aggressive in financing its growth with debt. This can
result in volatile earnings as a result of the additional interest expense. If
a lot of debt is used to finance increased operations (high debt to equity),
the company could potentially generate more earnings than it would have without
this outside financing. If this financing increases earnings by a greater
amount than the debt cost (interest), then the shareholders benefit as more
earnings are being spread among the same amount of shareholders. However, the
cost of this debt financing may outweigh the return that the company generates
on the debt through investment and business activities and become too much for
the company to handle. Insufficient returns can lead to bankruptcy and leave
shareholders with nothing. The debt/equity ratio also depends on the industry
in which the company operates. For example, capitalintensive industries such
as auto manufacturing tend to have a debt/equity ratio above 2, while personal
computer companies tend to have a debt/equity ratio of under 0.5. A company can
change its capital structure by issuing debt to buy back outstanding equities
or by issuing new stock and using the proceeds to repay debt. Issuing new debt
increases the debttoequity ratio; issuing new equity lowers the
debttoequity ratio.
The article consists of following
sections. Section I provides a brief review of relevant literature. Section II
discusses the overview of Aluminium industry. Section III describes the company
profile Section IV deals with research methodology. Section V represents the
data description. Section VI contains the empirical hypothesis testing and
section VII completes the paper with findings & conclusion.
I LITERATURE
REVIEW
Ang (1922) argued that the
relationship between size and leverage is rather complex, and enough reasons
can be found to justify either lower or higher leverage in small firms when
compared with larger firm. Indeed, empirical evidence does not provide support
for a clear and monotone relationship between size and leverage, although small
firms generally show higher leverage ratios and make greater use of shortterm
financing than the large firm.
Benjamin, (1985), infers that the effectiveness of
either bond covenants or implicit capital market monitoring is reduced
specially in weak form of market efficiency. Since the market cannot
effectively monitor investment decisions, it instead limits the amount of debt.
Because highgrowth firms cannot be effectively monitored, they will have lower
financial leverage.
De Wet (2006) proves that a significant increase in
value can be achieved in moving closer to the optimal level of gearing.
Fama and French (2002) conclude that there should be a
positive relation between debt ratio and firm profitability.
Firer et al, 2004, and Erhard and Brigham, (2003) says
an optimal debt/equity ratio is achieved when the value of a firm is maximized
while the cost of capital is minimized.
Hyde (2007) states that changes in interest rates will
alter a firm’s financing costs, affecting the amount of loan interest and
principle payments and ultimately impact a firm’s cash flows.
John (1993) presented
evidence for firm level determinants of cash holdings, indicating that firms
with higher costs of financial distress and higher cash flow volatility hold
significantly more cash, while firms with higher leverage, higher growth rates,
a longer cash conversion cycle, and more tangible assets holds less cash.
Lasher (2003) asserts that increased levels of debt
finance can result in increased Earning Per Share and Return On Equity.
Mandelkar, et al, (1984) states when a firm employs a
high level of operating and financial leverage, even a small change in the
level of sales, will have dramatic effect on EPS.
Modigliani and Miller (1958), who derived the leverage
irrelevance theorem, concluding that capital structure does not impact firm
value in an ideal environment.
Modigliani and Miller (1963) issued a correction in
their earlier theory and still argue that a change in the debt/equity ratio
does not impact on firm value; however when taxes and other transaction costs
are considered it results into lowering a firm’s WACC as debt increases.
Myers, (1977) recognized that the underinvestment
problem by noting that shareholders of firms with risky debt will invest only
when or up to the point at which, the expected return on investment is at least
as great as the promised payment to bondholders. When the expected return is
less than the promised payment, shareholders fail to exercise the investment
option or invest less than the optimal amount, which reduces firm value. It is
this decline in firm value which limits the amount of debt a given firm can
issue.
Myers (1984) holds that the various capital structure
theories do not explain actual financing behavior and it is therefore
presumptuous to advise firms on optimal capital structure.
Myers (2001) postulates that debt offers firm a tax
shield and firms therefore pursue higher levels of debts in order to gain the
maximum tax benefit and ultimately enhance profitability. However, high levels
of debt increases the possibility of bankruptcy.
Sharma (2006) concludes that there is a direct
correlation between leverage and firm value.
Rajan and Zingales (1995) find a negative relationship
between debt and profitability.
Ross (1977) posits that firm managers possess more
information about the future prospects of the firm than the market. Increasing
leverage would signal to the market that a firm’s managers are confident about
servicing the interest charges. Therefore an increase in leverage would
increase the value of the firm since investors would deem this to be a positive
signal of the size and stability of future cash flows.
Schwartz
and Aronson’s (1967) research concludes that the capital structures of firms in
different industries are different
Whited (1992) found that firm with
higher leverage display a higher sensitivity of investment to cash flow.
II INDUSTRY PROFILE
In 1808 the Aluminium industry was established.
After almost 46 years the production was commercially viable. After a long
research works of several years the extracting of aluminium from ore was
succeeded. Aluminium is third most available in the earth consisting mostly
7.3% by mass. At present aluminium is also the second most used metal in the
world after steel.
·
The first aluminum companies was founded
in the year 1888 in Switzerland, USA and France.
·
And in the year 1889 Karl Joseph Bayer
son of the founder of the Bayer chemical company, created the Bayer Process for
the production of alumina in largescale
from bauxite
·
The Aluminium industry in India
comprises two main segments
·
Primary producers manufacture Primary
Aluminium Metal in the form of Ingots and slabs.
·
Secondary producers manufacture
semifabricated items like rolled products, extrusions, rods & foils from
the primary metals.
Entry
barriers to the industry are high because of the large capital costs of an
integrated plant. Also, the industry uses high power and technology, intensive
and the need for a capital power facility increases the capital costs.
Production costs and product mix are the basis of competition in the industry.
Companies that have highly integrated production facilities including captive
mines and power plants as well As product mix that leans towards value added
and semifabricated products have an advantage over other manufacturers. In
fact, integrated aluminium manufacturers who use aluminium Ingots produced in
house to manufacture value. Added products derive the maximum benefits from
forward integration since they can take advantage of variations prices. High
levels of operating efficiencies and capacity utilization coupled with captive
power Sources are the key determinants of profitability. Thus these factors
have helped make India one of the lowest cost aluminium producers in the world.
III COMPANY
PROFILE
Hindalco Industries Limited, a
flagship company of the Aditya Birla Group, is structured into two strategic
businesses Aluminium and copper and the industry leader in both segments. A
nonferrous metals powerhouse, close to global scale, it ranks among India's
top 10 companies in terms of market capitalization. Hindalco commenced its
operations in 1962 with an aluminium facility at Renukoot in eastern Uttar
Pradesh. Over the years, it grew into the largest integrated aluminium
manufacturer in the country. With an eye to build size and scale, Hindalco
acquired in financial year 2000 a majority stake in Indian Aluminium Company
Limited (INDAL)  having a major presence in downstream aluminium products and
a leader in special alumina from Alcan of Canada. In August 2004, the boards of
Hindalco and INDAL approved a Scheme of Arrangement wherein all the assets of INDAL
other than the foil unit at Kollur in Andhra Pradesh were to be demerged into
Hindalco. This has come into effect retrospectively from 1 April 2004.
Hindalco
is Asia's largest primary producer of aluminium, and among the most
costefficient producers globally. In India, Hindalco enjoys a leadership
position in primary aluminium and downstream products. Smelters are located at
Hirakud, Orissa, with a captive power plant and coal mines, and at Alupuram,
Kerala. Rolled product manufacturing facilities are located at Belur and Taloja
and an extrusions plant at Alupuram. The company's R&D centers are located
at Belgaum, Renukoot and Taloja. The government of India’s Department of
Scientific and Industrial Research (DSIR) has recognized these.
Hindalco's
units are ISO 9001 and 14001 Certified, while several have also attained the
OHSAS 18001  the occupational health and safety certification. On the export
front, the company has been accorded a 'Trading House' status by the Indian
government. As a member of the Aditya Birla Group, Indal is a part of a $6
billion corporation, with a market cap of $5 billion. The Group’s
multicultural, multilingual workforce of 72,000 employees belongs to 20
different nationalities and its products and services reach across more than
100 countries. Its flagship companies include Hindalco, Grasim, Indian Rayon
and Indo Gulf.
OBJECTIVES
1.
To ascertain the nature of association
between the firms’s financial leverage and the select firm value proxies with
special reference to the Hindalco Industry Limited.
2.
To assess the influence of financial
leverage on firm value with special reference to the Hindalco Industry Limited.
IV RESEARCH METHODOLOGY
This article tested influence of capital
structure & leverage on the value of a firm by considering financial ratios
for the Hindalco Industry Limited. The proxies for firm value are EPS, ROCE,
ROA, RONW, OPM, ROLTF, & NPM. The research methodology employed was causal
research. An endeavor was made to discover cause & effect relationships
between leverage & firm value. The authors have followed quantitative
analysis of secondary data. Information relating to the firm’s financial
performance & capital structure provided in the companies’ AGM reports was
sourced from the official website of the company.
SAMPLE SIZE
& SELECTION
Nonprobability convenience sampling
techniques has been employed to select the sample unit for the study. Such a
selection is undertaken as the unit represents the sample in a better way and
reflects better relationship with the other variable of the study.
DATA
COLLECTION
The authors have used
secondary data which was obtained the official website of
the company. All data standardization has been
carried out by the authors before performing the financial data analysis.
Therefore the information provided is both comprehensive & accurate.
DATA ANALYSIS
TOOLS
The study was carried out by
quantitative analysis of financial information using appropriate statistical
techniques. The technique utilized in this study was correlation and regression
analysis. Regression analysis was used
to determine the relationship between the variation in firm value and financial leverage. Regression
analysis is a statistical technique that is used to determine the value
relationship between a dependent and an independent variable. Regression
analysis is one of the most pervasive of all statistical analysis methods due
to its generality and applicability although it does not account for cause
andeffect relationships in depth. The financial performance of the firm has been
analyzed using the technique of ratio analysis and descriptive statistics. The
data has been analyzed with the help of SPSS and MSExcel.
LIMITATIONS OF
THE STUDY
1.
The article has focused only on Hindalco
Industry Limited and do not consider other industries or companies operating in
Indian capital market.
2.
The article has ignored the impact of
possible differences in the accounting methods adopted by firm over the period
of the study.
3.
The article has not used any control
groups for comparison.
 The article
was developed using the financial data of the select firm for the past
five years (20102015).
V DATA ANALYSIS
The application of statistical analysis
has become increasingly significant. Statistical techniques are now considered
an effective support in solving management problems. Financial leverage
[debtequity ratio] was the independent variable and all the profitability
& growth ratios, as well as the earnings per share were dependent variables
i.e. firm value proxies. The financial performance of the firm has been
analyzed using the technique of ratio analysis. The study was carried out by
quantitative analysis of financial information using suitable statistical
tools. The tools utilized in this study were regression & correlation
analysis. Regression analysis was used to determine the relationship between
the variation in firm value & financial leverage. The debt to equity ratio
was used as a proxy for financial leverage (independent variable) and the firm
value: ROCE, ROLTF, RONW, ROA, EPS, GPM, OPM, & NPM (dependent variables).
The various tests were conducted with
95% confidence interval. The confidence interval is the set of acceptable
hypothesis or the level of probability associated with an interval estimate
(Zikmund, 2003). The data has been analyzed with the help of SPSS and MSExcel
and the results are as follows.
VI HYPOTHESIS TESTING
Hypotheses 1
To
test the significant relationship between the firm’s financial leverage and
firm’s value, the following null and alternative hypotheses are proposed.
H_{O}:
There is no association between
financial leverage and firm value proxies with special reference to Hindalco
Industry Limited.
H_{1}:
There is an association between
financial leverage and firm value proxies with special reference to Hindalco
Industry Limited.
The hypothesis is evaluated by applying
Karl Pearson Correlation Matrix Analysis at 0.05 level of significance and the
results are shown in the following table.
Table 1 –
Correlation Analysis
Capital Structure
Proxy Variable

Firm Value Proxy Variable

Pearson Correlation
Value “R”

Significance Value
“p”

Null Hypothesis
Result

DEBT/EQUITY (D/E)

ROA

0.881^{*}

0.048

Significant

ROCE

0.930^{*}

0.022

Significant

RONW

0.642

0.243

Insignificant

ROLTF

0.920^{*}

0.027

Significant

OPM

0.941^{*}

0.017

Significant

GPM

0.901^{*}

0.037

Significant

NPM

0.593

0.292

Insignificant

EPS

0.635

0.250

Insignificant

*Correlation is significant at the
0.05 level (2tailed)

Source: compilation by authors
·
D/E
and ROA: referring to the correlation analysis at 0.05 level
of significance, there is a negative association between the debtequity ratio
and return on assets i.e. R = 0.881. An increase in debt equity ratio leads to
decrease in the return on assets. Further the relationship is statistically
significant as revealed by probability value, p = 0.048 for 2tailed test. It
is evident that as the leverage goes up beyond the threshold level, the ROA
decreases indicating a strong inverse relationship between the select two variables.
·
D/E
and ROCE: with reference to the correlation analysis at 0.05 level
of significance, there is a negative association between the debtequity ratio
and return on capital employed i.e. R= 0.930.
The relationship is statistically significant as revealed by probability
value, p = 0.022 for 2tailed test. It is apparent that as the leverage increase,
the fixed financial obligations tend to surge subsequently decreasing the ROCE
to equity holders.
·
D/E
and RONW: referring to the correlation analysis at 0.05 level
of significance, there is a negative correlation between the debtequity ratio
and return on net worth i.e. R= 0.642. Additionally, the relationship is
statistically insignificant as revealed by probability value, p = 0.243for
2tailed test. Thus, it is observed that as the leverage level changes, the
ROWN also changes but both moves in the opposite direction illustrating an
inverse trend between the select variables.
·
D/E
and ROLTF: There is a negative correlation between the
debtequity ratio and return on long term fund i.e. R= 0.920. The relationship
is statistically significant as revealed by probability value, p = 0.027 for
2tailed test. Therefore, it is witnessed that as the leverage is changed, the
ROLTF also deviates in the opposite direction demonstrating an inverse
relationship between the select two variables.
·
D/E
and OPM: referring to the correlation analysis at 0.05 level
of significance, there is a negative correlation between the debtequity ratio
and operating profit margin i.e. R= 0.941. Further the relationship is
statistically significant as revealed by probability value, p = 0.017for
2tailed test. It is observed that as the leverage level changes, the OPM also deviates
in the opposite direction representing an inverse relationship between the
select variables. The OPM declines due to obligation of rising financial
charges as the level of leverage increases it results in higher interest
payment and tax shield benefits are nullified.
·
D/E
and GPM: with reference to the correlation analysis at 0.05 level
of significance, there is a negative correlation between the debtequity ratio
and gross profit margin i.e. R= 0.901. Further the association is
statistically significant as shown by probability value, p = 0.037 for 2tailed
test. It is witnessed that, change in D/E reduces the GPM signifying an inverse
relationship between the select variables.
·
D/E
and NPM: referring to the correlation analysis at 0.05 level
of significance, there is a negative correlation between the debtequity ratio
and net profit margin i.e. R= 0.593. The relationship is statistically
insignificant as exposed by probability value, p = 0.292 for 2tailed test.
There are other quantitative & qualitative factors which nullifies the
effects of leverage on net profit margin and therefore the association is not
significant.
·
D/E
and EPS: There is a negative correlation between the
debtequity ratio and earnings per share i.e. R= 0.635. The relationship is
statistically not significant as revealed by probability value, p = 0.250 for
2tailed test. The influence of capital providers varies as the level of
debtequity changes in the firm’s capital structure. When financial leverage
increases, the equity providers base there valuation after accounting for all
financial obligations and they tend to project their returns on residual
earnings
Table 1 discloses that there is a negative association
between financial leverage
proxy variable with select firm value proxy
variables as Correlation Value “R” is
negative in all the cases and the Significance
Value “p” is less than the assumed level of significance (0.05) except for
RONW, NPM & EPS which indicates that capital structure holds an inverse
relationship with firm value proxy variables. Thus the null hypothesis, ‘There is no association between
financial leverage and firm value proxies with special reference to Hindalco
Industry Limited’ is rejected and the alternative hypothesis, ‘There is an association between financial leverage and firm value proxies
with special reference to Hindalco Industry Limited’ is accepted based on the
Karl Pearson correlation analysis.
Hypotheses 2
H_{O}: Financial leverage do not influence firm
value with special reference to Hindalco Industry Limited.
H_{1}: Financial
leverage do influence firm value with special reference to Hindalco Industry
Limited
The
independent variable represented by the debtequity ratio was found to be
correlated with the dependent variable represented by the select ratios like:
ROA, ROCE, RONW, ROLTF, OPM, GPM, NPM & EPS. Regression analysis was
conducted taking into consideration data over five year period to determine a
cause  effect analysis between independent and dependent variables. The
regression model summary parameters were used in order to determine the
influence of financial leverage on firm value. R^{2} shows the extent or percentage of the output
variable’s variance as explained by the input variables i.e. dependent and
independent variables. In other words, R^{2} explains the influence of
select independent variable on dependent variable in terms of percentage. The adjusted
R^{2} shows that by putting an additional new independent variable in
the regression equation along with the existing independent variable, chances
of improvement in the R^{2} parameter.
Table 3 –
Regression Analysis
Independent Variable

Depended Variable

R Square

Adjusted R Square

F

Sig.

B

Sig.

Null Hypothesis Result

DEBT/EQUITY (D/E)

ROA

0.777

0.702

10.443

.048

97.967

0.028

Significant

53.81

0.048

ROCE

0.864

0.819

19.061

.022

15.232

0.004

Significant

5.507

0.022

RONW

0.412

0.216

2.104

.243

17.71

0.097

Insignificant

7.321

0.243

ROLTF

0.846

0.794

16.424

.027

15.894

0.004

Significant

5.534

0.027

OPM

0.885

0.847

23.158

.017

13.877

0.001

Significant

2.831

0.017

GPM

0.812

0.749

12.938

.037

9.787

0.003

Significant

2.553

0.037

NPM

0.352

0.136

1.628

.292

6.854

0.116

Insignificant

2.708

0.292

EPS

0.403

0.204

2.025

.250

34.325

0.12

Insignificant

15.398

0.25

Source: compilation by authors
·
D/E
and ROA: There exists an inverse relationship between the
select variables. An increase in financial leverage influences gradual decrease
in return on assets. From table 3, 77.7% of the value of return on assets can
be explained by the debtequity ratio and the remaining 23.3% of value is
credited to other variables which influences return on assets in Hindalco
industries Limited. Whereas
adjusted R^{2} stands at 0.702, which shows that putting the new
variable in the regression equation, chances of improvement in the overall
model is high but not superseding the direct influence of D/E on ROA.
Calculated F value is 10.443 which is more than critical f table value
of 4.01 & calculated significant value 0.028 is less than assumed level of significance
value (0.05). Therefore based on the regression analysis it has been observed
that the model is significant and we can reject the proposed null hypothesis.
·
D/E
and ROCE: The regression analysis exhibits a negative
relationship between the select variables. An increase in financial Leverage
influences gradual decrease in return on capital employed ratio. Referring to
table 3, 86.4% value related to return on capital employed can be explained by
the debtequity ratio and the remaining 13.6% of value is attributed by other
variables which influences return on capital employed in Hindalco industries
Limited. Whereas
adjusted R^{2 }stands at 0.819, which shows that addition of new
variable in the regression equation, chances of improvement in the R^{2 }is
adequate but do not surpass the original values. Calculated F value is 19.061
which is more than critical f table value
of 4.01 & calculated significant value 0.004 is less than assumed significance
level value of 0.05. Thus based on the regression analysis it is observed that
the model is significant and we can reject the proposed null hypothesis.
·
D/E
and RONW: There exists an undesirable relationship between
the select variables. An increase in financial leverage influences steady
decrease in return on net worth ratio. 41.2% return on net worth can be
explained by the debtequity ratio and the remaining 58.8% of value is
contributed by other variables which influences return on net worth ratio in Hindalco industries Limited.
The adjusted R^{2 }stands at 0.216, which illustrates that with
putting the new variable in the regression equation, chances of improvement in
the R^{2 }is possible. Calculated F value 2.104
is less than critical f table value
of 4.01 & calculated significant value 0.097 is more than assumed significance
level value of 0.05. Thus based on the regression analysis it is observed that
the model is insignificant and we cannot reject the proposed null hypothesis
·
D/E
and ROLTF: There is a negative relationship between the select
variables. An increase in financial leverage influences slow decrease in return
on long term funds ratio. 0.846% of the value of return on long term funds can
be explained by the debtequity ratio and the remaining 15.4%
of value is contributed by other variables which influences return on long on
long term funds in Hindalco
industries Limited. Whereas adjusted R^{2 }stands at 0.794, which shows
that with putting the new variable in the regression equation, chances of
improvement in the R^{2 }is less as compared to the original equation.
Calculated F value is 16.424 which is more than critical f table value
of 4.01 & calculated significant value 0.004 is less than assumed significance
level value of 0.05
·
D/E
and GPM: There is a negative association between the select
variables. A rise in financial leverage influences gradual decrease in return
on assets ratio. 81.2% of the value of return on assets can be explained by the
debtequity ratio and the remaining 18.8% of value is credited to other
variables which influences return on assets in Hindalco industries Limited. Whereas adjusted R^{2}
stands at 0.749,
which shows that by putting the new variable in the regression equation,
chances of improvement in the R^{2} is relatively high. Calculated F
value is 12.938 that is more than critical f table value of 4.01 & calculated
significant value 0.003 is less than assumed significance level value of 0.05.
Therefore based on the regression analysis it is observed that the model is
significant and we can reject the proposed null hypothesis
·
D/E
and OPM: There happens to be a negative relationship between
the select variables. An increase in financial leverage influences steady
decrease in operating profit margin ratio. 88.5% of the value of operating
profit margin can be explained by the debtequity ratio and the remaining 11.5%
of value is credited to other variables, which influences operating profit
margin in Hindalco
industries Limited. Whereas adjusted R^{2 }stands at 0.847, which shows that with putting the
new variable in the regression equation, chances of improvement in the R^{2}
is possible. Calculated F value 23.158 is more than critical f table value
of 4.01 & calculated significant value 0.001 is less than assumed significance
level value of 0.05. Thus based on the regression analysis it is observed that the
model is significant and we can reject the proposed null hypothesis
·
D/E
and NPM: There exists a negative relationship between the
select variables. An increase in financial leverage influences gradual decrease
in return on assets ratio. 35.2% of the value of net profit margin can be
explained by the debtequity ratio and the remaining 64.8%
of value is credited to other variables that influences net profit margin in
the Hindalco industries limited.
Whereas adjusted R^{2}
stands at 0.136,
which shows that with putting the new variable in the regression equation,
chances of improvement in the R^{2 }is more. Calculated F value 1.628
is less than critical f table value
of 4.01 & calculated significant value 0.116 is more than assumed significance
level value of 0.05. Thus based on the regression analysis it is observed that
the model is insignificant and we cannot reject the proposed null hypothesis
·
D/E
and EPS: There is a negative relationship between the select
variables. An increase in financial leverage influences slow decrease in
earnings per share ratio. 40.3% of the value of earning per share can be
explained by the debtequity ratio and the remaining 59.7%
of value is contributed by other variables which influences earning per share
in Hindalco industries Limited.
Whereas adjusted R^{2 }stands
at .204, which shows that with putting the
new variable in the regression equation, chances of improvement in the R^{2 }is
very less. Calculated F value 2.025 is more than critical f table value
of 4.01 & calculated significant value 0.120 is more than assumed significance
level value of 0.05. Thus based o the regression analysis it is observed that
the model is insignificant and we cannot reject the proposed null hypothesis
The information in table 3 shows
that all variables that were proxy for the firm value were correlated with
debtequity or financial leverage. Majority of the firm value proxy variables
show significant regressed values and they are all statistically significant as
indicated by significant probability value. The calculated F value for the ROA,
ROCE, ROLTF, OPM & GPM is more than the critical table value at the given
degree of freedom and level of significance value. In addition, the significant
probability value is less than the assumed significance level (0.05) for the
above said variables indicating statistical significance for rejection of
proposed null hypothesis in majority of the observations. The RONW, NPM &
EPS were found to be insignificant on the given regression parameters. Thus, the null hypothesis, ‘Financial leverage do not influence firm
value with special reference to Hindalco Industry Limited’ is rejected and the
alternative hypothesis, ‘Financial leverage do influence firm
value with special reference to Hindalco Industry Limited’ is accepted. Though, the financial leverage affects the firm
value but in majority of the cases it is not contributing a positive value
rather it is leading to negative value creation. The classical idea of
financial leverage to enhance the firm value is not completely fulfilled based
on the data analysis.
VII FINDINGS
 The results of this research paper
shows that capital structure inversely influences firm value and are in
line with the findings of Rajan and Zingales (1995) and Myers (1984).
·
The underlying assumption for optimal
financial leverage is that firm under investigation operate in an efficient
market environment, in the context of the Hindalco industries Limited the
assumption of efficient market might not be applicable to the full extent and
this could therefore explain the negative influence of leverage on firm value.
·
The negative influence of financial
leverage on firm value can be attributed to the Hindalco for pursuing debt to
reduce their tax burden, in line with trade off theory where Myers (2001)
postulates that debt offers a firm tax shield.
·
An exact optimal financial leverage is
difficult to establish. A range exists wherein financial leverage could
maximize firm value (De Wet, 2006). Therefore, managers should acknowledge this
range as well as the fact that it is different for each industry or sector to
arrive at.
·
An additional issue that requires
acknowledgment is that the data was stratified by industry or sectors resulting
in the reduction of the sample size to single digit figure. The small sample
size may have contributed to the results’ failure to show a positive
correlation & influence.
·
Net profit margin has been affected by
the exchange rate fluctuations as Hindalco industries limited is exposed to
foreign currency risk during the period of the study.
·
The results reveal significantly
negative relation between debt and profitability, an increase in debt position
is associated with a decrease in profitability, higher the debt lower the
profitability of the firm.
·
The financial ratios are calculated by
using financial statements of the Hindalco industries Limited which are
published annually, therefore there is only one result available per year.
·
It is observed that, the factory cash
flow is exposed to currency price volatility & the treasury department is
not indulge in effective risk management
CONCLUSION
The
purpose of this paper was first to determine whether or not a relationship
exists between financial leverage and firm value. The findings show a
correlation for Hindalco Industries Limited; however an inverse relationship
exists between financial leverage and firm value proxy variables. The overall findings indicate that
there is relative significant influence of financial leverage on firm value but
the positive value creation principle was not able to be witnessed. The article
also concludes that there might be other nonquantitative factors which may
lead to invalidate the influence of financial leverage on firm value, like
recession, saturation of industry, competition and government policy. It is
important to note that financial leverage is a speculative technique and there
are special risks and costs involved with its application. Indeed, there can be
no assurance that a financial leverage strategy will be successful during any period
in which it is employed. This is evident from this article that the
complex nature of financial
leverage and its influence on firm value. The number of
ratios as proxies for firm value added to the complexity too. Some of the
ratios contained common elements which could cause the results to be nonconclusive.
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Various
issues of Annual General Report copies of Hindalco Industries Limited
Text Books
Ø Strategic Financial Management by
Robert Alan Hill
Ø Financial Management by I. M.
Pandey
Ø Financial Management by Ross
Ø Principles of Managerial Finance by L. J. Gitman
Ø Financial Management by Van Horne
Ø Business Statistics by S. C. Gupta
Ø Business Research Methods by Zikmund