Capital Structure Analysis of Sanima Bank ltd. and Machhapuchchhre Bank Ltd.

A Thesis Proposal
By
Ram Bahadur Sharki
Central Department of Management
Roll. No. 9334
Registration No. 7-3-177-217-2017

Submitted in Partial Fulfillment of the Requirement of Degree of

Masters of Business Studies (MBS)
in the
Faculty of Management
Tribhuvan University

Central Department of Management

Kirtipur, Kathmandu, Nepal

11,2019
 Introduction
1. Background of the study
Bank refers those organizations whose are collect deposit from customer by giving some interest
according to account type and invest that money to the different sector and as a loan and earn more
interest and other more activities in current time. But if we want to know about the bank history than we
found the word "BANK" is came from Latin word "BANCUS" which means to keeping the record of
money transactions by sitting the bench. Another concept says Bank word came from French word
"BANQUE" and Italian word "BANCO" which means invest and exchange by sitting in bench. And
another concept say's it came from German word "BANCK" which means public Capital.
Bank is the very most important part of the economy. It helps to increase economic develops. So modern
banking activities start from 1157 AD by Bank of Venice and gradually 1401 AD by Bank of Buecelona,
1407 AD Bank of Genoa, 1472 AD Monte dei paschi di sienq, 1609 AD Bank of Amsterdam, 1694 AD
Bank of Amsterdam and 1694 AD Bank of England are established and currently many more bank are
established in all countries.
In Nepalese context the banking sector is established many years later. In 1933 BS RANODIP SINGH
established the TEJARATH ADDA then after banking transactions is start in Nepal. After Tejarath Adda
1989 BS establish the TAKSAR ADDA and then in 1993 BS Stablish Nepal Bank LTD but it's formal
opening in 1994 Kartik 30 by King Tribhun. It is the Nepal's first bank and it works as a central bank in
Nepal till 2013 BS. In Nepal central bank was establish in BS 2013 Baishakh 14 Nepal Rastra Bank. At
this time Nepal have 27 Commercial Bank, 36 Development Bank, 43Finance Company and 56
Microfinance. Currently Nepal's banking sector is not more developed.
To establish and run an organization we need to money that is known as Capital. Capital structure refers
that money which is need to the organization and which collected from different sector like debt and
equity. The portion of debt capital and equity capital which is used in organization for fulfillment of
need of capital is known as capital structure. Capital structure plays the most important role for
organizational profitability goal achievement. So it is the more serious matter of any organization so all
organization needs to manage optimum capital structure. If in capital structure the portion of debt is more
than the organization have risk for solvency and if portion of equity is more than we are not earn more
profit and we are not able to pay the desire return to the investor than investors are not interested for
invest in that organization. So capital structure maintain is the very important.
“Capital structure concept holds a major place in the financial management. Capital structure refers the
proportion of debt and equity capital. A perfect balance between debt and equity is required to ensure
the trade-off between risk and return. Thus, optimal capital structure means the capital structure having
reasonable proportion of debt and equity. An optimal financial structure makes better use of society’s
fund of capital resources, and thus it increases the total wealth of society” (Soloman, 1969). At the time
maintaining capital structure is most important for the bank. To collect the capital banks are banks are
issued shares and debentures. By the share banks are collect the equity capital and by debenture banks
are collect debt capital.
Always debt is attractive because it is cheap cost its cost is fixed interest which is always tax deductible
so it always saves the tax and increase the profit of organization these are the benefits if debt financing.
In debt financing interest will be paid on time to time and if we over financing by the debt, the
organization may not able to obligate the interest and principal payments and thus, liquidation may
follow these are the disadvantages of the debt financing. Therefore, there are bankruptcy costs to be
borne by the organization if organization uses more debt financing. So organization want maintain the
debt ratio according to industry and our TIE Ratio. Higher debt financing ratio indicates the higher
financing risk and lower debt ratio indicate the lower financing risk. Equity financing is does not have
to pay fixed interest cost. But in equity financing organization pay only dividend which is the part of
profit. And it is not tax deductible it is the part which is remaining after pay tax. Equity financing is the
lower risky then the debt financing because it is not obligated to pay dividends to its equity financer
(shareholder) if organization is not in profitable.

Sanima Bank limited is start its business in 2004 as a National Development Bank. Since February 2012,
it functioning as an "A" Class Commercial Bank with its registered at 'Alakapuri', Naxal, Kathmandu. It
provides one window financing solution to the different customer segment and to achieve healthy growth
in profitability consistent with the bank's risk appetite. It has 58 full-fledged branches from Mechi to
Mahakali and one extension counter. Its vision is to be a trusted and leading bank in Nepal.

1. Statement of Problem

Capital structure refers to the proportion of different types of securities issued by the firm like common
shares, long term debt, preference share capital, debentures and retained earnings. We know that major
portion of the capital comprises of owner's fund and creditors fund. The owners expect dividend and
appreciation in the share price whereas creditors expect interest and return of the fund at the mentioned
time. So the capital structure of the firm is important factor in determining the success of the firms. The
firm is successful if it can optimize its capital structure and the capital is optimal when the overall cost
of capital of the firm is minimized and profitability is maximized. So, analysis of the capital structure of
the selected CBs will help optimal capital structure, which minimizes cost of capital and maximizes
profitability.

The study encompasses an analysis of capital structure at Sanima Bank Ltd and Machhapuchchhre Bank
Ltd. In order to run and manage a company, Funds are needed. Right from the promotional stage up to
end, finance plays an important role in company’s life. If funds are adequate or inadequate the business
suffers. Therefore, it is necessary that correct estimate of the current and future need of capital is to be
made. Capital structure helps to find the proportion of debt and equity and in which way it affects the
value of the firm. Capital structure leads to maximum market valuation and to and to minimum cost of
capital. minimum cost of capital. The company is in need to maintain a proper balance between
profitability and liquidity and these allow smooth operation of liquidity and these allow smooth operation
of the firm as well as perfect the interest of the firm as well as perfect the interest of the creditors and
investors. That is why it is necessary for the company to evaluate from time to time the liquidity and
profitability position. As the decision regarding the capital mix of debt-equity have become very
important. I have decided to important. I have decided to study the capital structure of Sanima Bank Ltd
and Machhapuchchhre Bank Ltd.

Therefore, the researcher has focused on the following research problem for the study propose

a. What is the capital structure of both bank?

b. What is the long-term profitability of both bank?
c. What is the different leverage of both bank?
d. What is the cost of capital of both bank?

2. Objective of the Study

The main objective of this study is to analyze capital structures of sample banks, more specifically the
objectives are as follow

a. To find out the capital structure of both bank.

 b. To determine the long-term profitability of both bank.
c. To find the different leverage of both bank.
d. To find the cost of capital of both bank.

3. Rational of the study

Investigating the which is the optimal or good capital structure of commercial banks of Nepal is the main
purpose of this study. It is expected that this study will make a good contribution to the existing literature
in the academic sector. Accordingly, it will help to extend the current literature. In addition, this study
is about the subject of financial matters and related with the applied field of the banking industry.
Similarly, it will help the further researcher, me and other management students. Therefore, the study
could be beneficial to various groups of people in following ways.

a. Students: This study provides the knowledge and information about the debt and equity, capital
structure and its impact on different variable etc.
b. Future Researchers: Researcher will get additional knowledge information about research about
this topic and easy find the research gab to conduct new research to related topic. Also they will
be benefited by getting secondary data in this context. The proposed study will help to enhance
the level of understanding in capital structure for other researchers, management scholars and
other stakeholders.
c. Me: This study provides me the knowledge and information about the debt and equity, capital
structure, its impact on different variable, it also helps to suggest junior friends and to conduct
research for further study etc.
d. Investor: To analyze the past 8year performance of bank and forecast the future of bank.

5. Literature Review

5.1 Conceptual framework

“The optimum capital structure may be defined as that capital structure or combination
of debt and equity that leads to the maximum value of the firm” (Khan and Jain; 1990:487).
 “Erza Soloman expresses the optimum capital structure and its implications as: optimum
leverage can be defined as that mix of debt and equity which will maximize the market value of
the claims and ownership interest represented on the credit side of the balance sheet” (Solomon;
1969:132). Capital structure analysis is the process of find optimal capital structure to minimize
the cost and maximize the profit of organization.

Capital Structure refers to the relationship among various long term forms of financing
which includes mainly three types securities i.e. equity shares, preference shares and debenture
(Pandey; 1998:258-259). It is sometimes known as financial plan, refers to the 22 composition
of long term sources of funds such as debentures, long term debt, preference share capital and
equity share capital including reserves and surplus.

5.2 Review of past study

The several researchers have found various studies regarding financial performance of
commercial and joint venture banks. In this study, only relevant subject maters are reviewed
which are as follows: -

Prashai, (1999), has made a study on, “The Capital Structure of Nepal Bank Ltd”. The
basic objective of the study made by him was to analyze the interrelationship and trends
among some of the component parts of capital and assets structure and to provide
suggestions for the development of an appropriate capital structure. It has used financial
tools such as ratio analysis and statistical tools such as Karl Pearson’s co- efficient ratio
percentage, Index and average to analyze the relation between various variables. It is
known that the bank is composition of loan and advances, cash investment and other
assets. Between all these components, loan and advance are the major portions. During
the study, total assets and capitals are in increasing trend. But increasing rate of
component is different. So the interrelationship of the component is fluctuating. The
average growth rate of total deposits and other liabilities is higher than the average
growth rate of net profit, and higher than the growth rate of total expenses. The total
income and total expenses aren’t under control of the bank, and the net profit is only
40.64% of the total income. The study suggested that the bank must control total deposit
and the bank must also control investment. The bank needs to reduce its expenses and
control fluctuations in the earnings per share to improve its market price per share. Kafle,
(2001), has conducted research on “A Comparative Analysis of Capital Structure
 Between Lumbini Sugar Factory Limited and Birjung Sugar Factory Limited”. The
purpose of this study was to analyze the various ratio of capital structure decision, net
worth, earnings before interest and tax and to suggest measures to improve the policy of
the companies. According to him both the companies were facing serious deterioration
in earnings according to the net operating income approach. He noted down both the
companies had defective capital structure as debt equity ratio were not so much
satisfactory. Birgunj 48 Sugar Factory had high debt equity ratio indicating more
financial risk while Lumbini Sugar Mills had low debt equity ratio which indicates
access power of equity holders. And both the companies were unable to pay interest
because they were operating at loss. As Birgunj sugar Factory was highly levered
Lumbini Sugar Factory was unlevered both the companies had defective capital
structure. Kafle suggested that it should change the debt equity ratio for sound capital
structure management to maintain it in 1:1 ratio. Neupane, (2002), conducted research
on, “A Study on Capital & Assets Structure of Nepal Bank Limited”. The basic objective
of this study was to analysis interrelation between different ratio, analysis of component
parts of capital structure; debt equity ratio, net worth, deposit/investment ratio etc.
According to him the research analyzed the different financial aspects of Nepal Bank
Limited. He remarked that the total deposit and total investment were not significantly
related. He concluded that the net worth was used in unproductive assets of the bank and
further commended that the bank needs to have productive use of its net worth

5.3 Research Gap

The researcher aims to fulfil the research gap under the field of present study. Still no research
work has been carried on the Capital Structure Analysis of Sanima Bank ltd. and
Machhapuchchhre Bank Ltd. This study will show that the unique feature of findings. Previous
research has been done the financial performance of Sanima Bank and Machhapuchchhre Bank
on individual basis. But this research is about analysis of capital structure analysis of both bank
very old and newer commercial bank of Nepal with sample of Sanima Bank and
Machhapuchchhre Bank with current data. This research can help the peoples who want to know
about the capital structure analysis of commercial bank in Nepal. Therefore, this topic is new as
well as the researches efforts may be appreciable.
6. Research Methodology
6.1 Research design

Research design is the conceptual structure within which research is conducted. It constitutes
the blue print for collection, measurement and analysis of data. As the study aims at narration of
existing facts and figures regarding financial position of both banks, the research design research
design adopted in the study has been descriptive in nature.

6.2 Population and sampling procedure

Population implies the whole or totally of observation that have been selected for the study.
Population is also known as universe, which represents the total population attributes and its
characteristics. There is various nature of operations in the banking sector. These represent
population of study. Total numbers of commercial bank in Nepal are 27 at present. So these
represent the population as a whole and only two banks i.e. Machhapuchchhre Bank and Sanima
Bank are taken as a sample.

6.3 Nature and sources of data collection

In this research only two methods will be used for data collection. These are primary data and
secondary data. This study will be based on primary and secondary data. Two banks will be taken
as a sample. The source of data collection will be as:

a) Online source / website / Internet source:

http://www.nbbl.com.np
http://www.sanimabank.com.np
b) Annual report
c) Prospectus.
d) Observations and field survey
e) Interview

6.4 Research framework and definition of variables

This research work will be based on the quantitative analysis. In quantitative analysis financial
and statistical tools will be used to examine strength and weaknesses of the banks under study.
The financial tools will include leverage, ratios, cost of capital and theories of capital structure.
Statistical tools mean collection of data, organize, presentation of data analysis of data and
interpretation of data.

The capital structure analysis variables are:

i. Cost of Equity
ii. Cost of Debt
iii. Composite Cost of Capital
iv. Debt- Equity Ratio
v. Capital Gearing Ratio
vi. Interest Coverage Ratio
vii. Fixed Assets to Long Term Debt Ratio
viii. Return on Assets
ix. Return on Equity
x. Earnings Per Share (EPS)
xi. Dividend Per Share (DPS)

Some key definitions are:

i. Cost of Equity
Equity is the permanent capital for a firm. The company may raise equity capital both
internally and externally. It can rise internally by retained earnings and externally by
issuing new shares. When a company wants to raise funds by way of equity shares,
their expectations have to be evaluated and for that cost of equity is calculated
ii. Cost of Debt
A company may raise debt in various ways. It may be in the form of debenture or loan
borrowed from financial or public institutions for a certain period of time at a specific
rate of interest. The debenture or bond may be issued at par, discount or premium. It
forms the basis for calculating cost of debt.
iii. Composite Cost of Capital
By using composite cost of capital to determine the optimal debt-equity mix for the
company.
iv. Debt- Equity Ratio
The relation The relationship between borrowed funds and owner’s ship between
borrowed funds and owner’s capital is capital is a popular measure of the long-term
financial solvency of a firm. This relationship is shown by debt-equity ratio. This ratio
was calculated to measure the relative claims of outsiders and the owners against the
 firm’s assets. It indicates the relationship between the external equities (or) outsider’s
funds and the internal equities (or) the shareholders’ funds.
v. Capital Gearing Ratio
The term capital gearing is used to describe the relationship between equity share
capital including reserves and surplus to preference share capital and other fixed
interest – bearing loans. If preference shares capital and other fixed interest bearing
loans exceed the equity share capital including reserves, the firm is said to be highly
geared and vice versa.
vi. Interest Coverage Ratio
It is also known as “time-interest-earned ratio”. This ratio measures the debt
servicing capacity of a firm in so far as fixed interest on long-term loan is concerned.
It is determined by dividing the operating profits or earnings before interest and taxes
(EBIT) plus depreciation by the fixed interest charges on loans.
vii. Fixed Assets to Long Term Debt Ratio
It shows the proportion of fixed assets in long term debt. It measures the company
LTD is more than fixed assets or not.
viii. Return on Assets
It is also known as Return to Investment or Ro 1 before tax basis. Return on total
assets ratio measures the profitability of bank that explains a firm to earn satisfactory
return on all financial resources invested in the bank assets. The ratio explains net
income for each unit of assets. Higher ratio indicates efficiency in utilizing its overall
resources and vice versa.
ix. Return on Equity
The ratio of net profit taxes to net worth measure the state of return on the stock
holder’s investment is computed by dividing EAT with net worth. This ratio tells us
the earning power on shareholder’s equity and is frequently used in comparing two
or more firms in an industry. It also indicates that the funds supplied by owners. The
higher ratio indicates that the funds using have effective in the company. It reflects
the extent to which the objective of profit maximization has been achieved. Here net
worth represents only equity capital.
x. Earnings Per Share (EPS)
Earnings per share refers the rupee amount earned per share of common stock
outstanding. It measures the return of each equity shareholders. The higher earning
indicates the better achievements of the profitability of the banks by mobilizing their
funds and vice versa. This ratio can be computed by dividing the earning available to
common shareholders by the total number of common stock outstanding of banks.
xi. Dividend Per Share (DPS)
Dividend per share indicates the rupee earnings actually distributed to common
stockholders per share held by them. It measures the dividend distribution to each
equity shareholders. Generally, the higher DPS creates positive attitude of the
 shareholders toward the bank, which consequently helps to increase the market value
of the shares.

6.5 Methods of data analysis

In this study financial and statistical tools will be used in order to achieve the objectives of the
study. Some financial tool such as ratio analysis, income and expenditure analysis will be used
for the financial analysis. The various financial tools that will be used for the study purpose are:

a) Ratio analysis:
b) Cost of Capital Analysis
c) Ration Analysis
d) Theories of capital Structure
e) Following the descriptive and inferential statistical tools will be used in this research:
i. Table
ii. Diagram
iii. Graph

Reference

Soloman, Erza. (1969). The Theory of Financial Management. New York: McGraw Hill Publishing
Company Limited.

Pandey, I. M. (1999). “Financial Management”. New Delhi: Vikas Publishing House Pvt. Ltd.

Kafle, P.M. (2001). “A Comparative Analysis of Capital Structure between Lumbini Sugar Factory
Limited and Birgunj Sugar Factory Limited”. An Unpublished Master’s Degree Thesis, Kathmandu:
Faculty of Management, Tribhuvan University.

Prashai, S.R. (1999). “The Capital Structure of Nepal Bank Ltd”. An Unpublished Master’s Degree
Thesis, Kathmandu: Faculty of Management, Tribhuvan University.

Neupane, G.P. (2002). “A Study on Capital and Asset Structure of Nepal Bank Limited (NABIL)". An
Unpublished Master’s Degree Thesis, Kathmandu: Faculty of Management, Tribhuvan University.

Khan, M.Y. & Jain, P.K. (1999). Financial Management. New Delhi: Tata McGraw-Hill. Lawrence,
D.S. and Haley, J. (1983). Introduction of Financial Management. New York: McGraw –Hill.