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BRILLIANT’S Capital Structure Theories 357

rental leases. When a corporation earns more ã¶mO H$s Anojm CYma H¡${nQ>b na A{YH$ H$‘mVm h¡ Vmo
on its borrowed capital than the interest it has Bgo ~m§S²>g na ^wJVmZ H$aZm hmoVm h¡, B{³dQ>r na Q´>oqS>J
to pay on bonds, trading on equity is profitable. bm^Xm¶H$ h¡&
So financial leverage is also called trading AV… ’$m¶Z|{e¶b brdaoO H$mo B{³dQ>r na Q´>oqS>J ^r
on equity. However there is the possibility of H$hm OmVm h¡& ¶Ú{n {dnarV n[aUm‘ H$s ^r g§^mdZm h¡
adverse result if the return is not adequate. Hence ¶{X n¶m©á [aQ>Z© Zht h¡& AV… B{³dQ>r na Q´>oqS>J Xmohar
trading on equity is double-edged. It may be
h¡& Bgo EH$ H$‘ aoQ> na CYma H¡${nQ>b go CËnÝZ bm^/
defined as the increase in profit/return resulting
from borrowing capital at a low rate and [aQ>Z© ‘| d¥{Õ VWm EH$ CÀM aoQ> CËnÝZ H$aZo dmbo ì¶mnma
employing it in a business yielding a higher rate. ‘| bJmZo Ho$ ê$n ‘| n[a^m{fV {H$¶m Om gH$Vm h¡&
According to Kulkarni and Satyaprasad Hw$bH$Uu VWm g˶àgmX Ho$ AZwgma, ''B{³dQ>r na
''trading on equity refers to the pyramiding of Q´>oqS>J H$m°nm}aoQ> bo¶g© Ho$ {nam{‘S> ~ZmZo H$m g§X^© XoVr h¡
corporate layers so that a successful smaller
amount of stock makes it possible for a {Oggo {H$ ñQ>m°H$ H$s EH$ g’$b N>moQ>r am{e gpãg{S>¶arO
company to gain control of the subsidiaries.'' H$m {Z¶§ÌU àmßV H$aZo Ho$ {bE Bgo g§^d ~ZmVr h¢&''
The use of the fixed-charge sources of ’§$S²>g Ho$ {’$³ñS> MmO© òmoVm| H$m Cn¶moJ O¡go {H$
funds, such as debt and preference capital along H¡${nQ>b ñQ´>³Ma ‘| ‘m{bH$ H$s B{³dQ>r Ho$ gmW S>oãQ> VWm
with the owner's equity in the capital structure {à’$a|g H¡${nQ>b H$m ’$m¶Z|{e¶b brdaoO ¶m Jr¶[a¨J ¶m
is described as financial leverage or gearing or
B{³dQ>r na Q´>oqS>J Ho$ ê$n ‘| dU©Z {H$¶m h¡& B{³dQ>r na
trading on equity. Trading on equity is
calculated by relating the rate of return on Q´>oqS>J g^r B{³dQ>r H¡${nQ>b ñQ´>³Ma Ho$ A§VJ©V B{³dQ>r
equity capital under the existing capital H¡${nQ>b na [aQ>Z© H$s aoQ> ‘| S>oãQ> H¡${nQ>b H$m g‘mdoe
structure inclusive of debt capital to the rate of H$aHo$ {dÚ‘mZ H¡${nQ>b ñQ´>³Ma Ho$ A§VJ©V B{³dQ>r H¡${nQ>b
return on equity capital under an all-equity
capital structure, i.e. the equivalent amount of na [aQ>Z© H$s aoQ> go g§~§{YV H$aHo$ JUZm {H$¶m OmVm h¡
equity share capital be raised in place of AWm©V² B{³dQ>r eo¶a H¡${nQ>b H$s g‘H$j am{e CYma
borrowed funds. ’§$S²>g Ho$ ñWmZ ‘| àmá H$s Om¶oJr&
Financial leverage explains the impact on ’$m¶Z|{e¶b brdaoO B©nrEg na à^md g‘PmVm h¡
EPS and trading on equity shows the impact of VWm B{³dQ>r na Q´>oqS>J B{³dQ>r H¡${nQ>b na [aQ>Z© H$m à^md
return on equity capital. The use of fixed charge àX{e©V H$aVr h¡& B{³dQ>r eo¶ahmoëS>g© Ho$ {bE CnbãY
or return bearing securities like debentures,
bonds, preference share capital, term loan etc., A{Zª½g ~‹T>mZo Ho$ {bE {’$³ñS> MmO© ¶m [aQ>Z© ~r¶[a¨J {g³¶mo[aQ>rO
to increase the earnings available to equity O¡go- {S>~|Mg©, ~m§S>²g, {à’$a|g eo¶a H¡${nQ>b, Q>‘© bmoZ
shareholders is termed as trading on equity. Am{X H$m Cn¶moJ B{³dQ>r na Q´>oqS>J H$hbmVm h¡&
In other words, trading on equity is a Xÿgao eãXm| ‘| B{³dQ>r na Q´>oqS>J EH$ VH$ZrH$ h¡
technique by which a firm tries to maximize {OgHo$ Ûmam EH$ g§ñWm H¡${nQ>b ñQ´>³Ma ‘| {’$³ñS> B§Q>aoñQ>
the return of equity shareholders by using fixed ~r¶[a¨J {g³¶mo[aQ>rO H$m Cn¶moJ H$aHo$ B{³dQ>r eo¶ahmoëS>g©
interest bearing securities in the capital Ho$ [aQ>Z© H$mo A{YH$V‘ H$aZo Ho$ {bE à¶mg H$aVr h¡&
structure. Trading on equity has direct impact B{³dQ>r na Q´>oqS>J H$m eo¶ahmoëS>a H$s g§n{Îm na grYm
on shareholder's wealth. This phenomenon can à^md hmoVm h¡& Bg n[aH$ënZm H$mo CXmhaU H$s ghm¶Vm
be illustrated with the help of an example: go dU©Z {H$¶m Om gH$Vm h¡: