The capital structure of Nick Scali Limited (NCL) is a mix of debt and equity. It implies that the company used both debt and equity to finance its business activities. Table 1 provides values of three key ratios related to the capital structure of Nick Scali Limited.
|Debt to Equity||0.26||0.37||0.30||0.40||0.40|
|Assets to Equity||0.21||0.21||1.98||2.05||2.03|
|Liabilities to Equity||0.11||0.11||0.98||1.05||1.03|
Table 1 indicates that the debt to equity ratio value increased in the last five years from 0.26 in 2015 to 0.40 in 2019. Although the company’s net income improved and its equity had almost doubled, its leverage worsened in the last five years. Most of the company’s assets were financed by other sources, including suppliers’ credit and external borrowings, rather than its internal equity. Moreover, it is noted that the company’s liabilities were higher than its total equity. The company’s capital structure strategy can be explained based on the trade-off theory, which demonstrates that firms borrow to avoid high tax payments on earnings. It implies that companies take advantage of the difference between the interest rate charged by lenders and the tax rate applied to their income.
Moreover, the capital structure of the selected company can also be explained by using the pecking order theory, which states that firms prefer to use internal equity before they borrow from external sources or raise additional funds from issuing new equity in the capital market. The justification for this choice is the high cost of borrowed funds and external equity. Moreover, it is difficult for companies to secure debt when they already have a weak leverage position. It could be concluded that there are different explanations for the choices that Nick Scali Limited made regarding its dividend policy and capital structure.