Course work 2

1)
Capital structure of the Engie’s on the basis of financial tools can be reviewed as:
a) Debt-Equity Ratio
b) Equity Ratio: Shareholders Equity/ Total capital employed
c) Debt Ratio: Total Debt/ Total Capital employed

As per the capital structure given in the sheet, we can review and determine the effectiveness
of the capital structure of the company.
As per the table, the total structure of company is:
Particulars 2017 2016
Equity 42,577 45,447
Total Non current liabilities 52,960 55,461
Current Liabilities 54,795 57,591

Capital employed 95,537 100,908

Now we can evaluate and appraise capital structure on the basis of the financial ratio’s as we
explained above.
Debt Equity Ratio 2.53 2.49
Equity Ratio 0.45 0.45
Debt Ratio 1.13 1.12

Debt equity ratio: A debt equity ratio simply illustrates that a company’s liquidity. So
suppose a company is in higher debt then the working capital of the company will be reduced
and the business of the company may lead to downside. But if the other side the equity is
higher than the return to the shareholders will be given on the profit portion and can also be
debarred for some period. So, a debt equity ratio helps to understand the viability of the
future.
As per the above table, the debt equity ratio of the company in 2016 was 2.49 and which is
even higher in 2017 to 2.53 which means that the company is been overburden with debt. In
case of solvency the company may liquidate and have to repay the funds of the debt holders.

Equity Ratio: It shows that the contribution of the equity holders in the total capital structure
of the company. Where the capital structure means that the company overall fund
management and the source for funding of capital expenditure and planning. So, equity ratio
states the owner’s fund and should be higher to 1. But as shown in the above table, the equity
ratio in the total capital is 0.45, which means that not even 50% contribution to total capital
employed by the company. This tells you that the company has financed 45% of its assets
with shareholder equity, meaning that 65% is debt funded.

Debt Ratio: This ratio shows that how much cash has been carried in terms of loans from the
different sources. If the debt ratio is higher than the other sources then the company should
monitor and find the factors to reduce the same. Currently the ratio is 1.13 which should be
less than 1. This ratio illustrates the higher interest liability of the company in terms of short
and long term.

b. Critically evaluate theoretical advantages and disadvantages of the company’s capital

Answer:
Capital structure should not be governed by one and should also not be over flow from one
source. Capital structure should be balance in terms of long term/ short term, it should be
source via Equity/Debt funds, it should be source from different ideas like, bonds,
debentures, deposits and can also be in nature of different rates.
So, theoretically the advantage and disadvantage of capital structure are as follows:
Advantage:
- The existing shareholders are been allowed to take the higher share as the debt
financing in the company is higher than equity. So the existing shareholders get the
higher benefit.
- A less members in board will help Engie to make a good strategic decision vs.
intervention of more shareholders
- Although the debt liability of the company is higher but it is subject to the repayment
period, i.e. once it is been paid then there is no obligation;
- Interest rate is less than the expected return of the company , which may be at any
number of percentage in the profit for the company;
- The interest expense is also a expense subject to tax so it is benefit for the company
to show the financial movement.
Disadvantage:
- Since the company is higher in debt funds so the company has a burden to pay
monthly instalment payments even if the cash flow doesn’t allow;
- If the instalments are not been paid then the company can face the penalty clause
with the stakeholders and even solvency can be challenged;
- Since the debt ratio is higher so the company will always be treated at higher risk at
any moment of time;
- Debt will not allow the company to take decision for expansion or any progress for
the company as the reserves will be given to the debt holders vs. the strategy for
expansion

As per the above description the advantage and disadvantage of the company will be specific
to Engie’s capital structure as it is more driven by debt financing than the equity finance
structure. So, if it could have been equity structured the definition could have been changed.

2) (a.) Assess the above company from a short-term financing perspective and comment on
the application of the matching principle. What conclusions can you draw, how are they
linked with the academic literature?
Answer:
As per the table below:
Particulars 2017 2016
Equity 42,577 45,447
Total Non current liabilities 52,960 55,461
Current Liabilities 54,795 57,591

Capital employed 95,537 100,908

The company debt structure is higher in terms of short term. The debt equity ratio is 2.53
which means that the company is already been structured in the terms of the debt and the
overall ratio of the debt ratio to the capital employed is 1.13 which means that company is
already in higher debt position and which should be reduced to the extend which will balance
with the standard capital structure. The scenario where short term financing should be
introduced can be seen when the long term can be reduced and the current liabilities can be
introduced to fund for the working capital. The company should plan a way where the project
should be focused by the reserve of the company or the other funds vs. the long term loans.
The current financing can help the company to plan for higher business and this can help to
increase the surplus for the company.
In this scenario the matching principle states that the accrued interest revenue and the
expense should be recorded in the books at the end of the period. And the return should be
taken only on realization. The expenses are in the nature of the interest payable for the short
term funding and the realization cost. When the returns are in the process of realization from
such funding then the company should book such expense only when the realization in banks
or the proof of return is been backed off.

As the Engie’s capital structure shows that it is already has huge sources from debt so it can
be planned to move to short term financing but then it first have to reduce the long term
finance and on the repayment of the same then company should take the loan only for the
short term working capital or the project driven so that the repayment will not be long and the
commitment can be fulfilled.

b) Working capital of the company means, current assets should be higher than the current
liabilities. From the financials of the Engie’s the working capital of the company is:
Particulars 2017 2016
Current Assets 58,161 59,595
Current Liabilities 54,795 57,591
Working capital 3,366 2,004

The working capital of the company is in positive which means that despite the higher ratio
the working capital of the company is in positive side.
The advantage and disadvantage to this will be:
Advantage:
- The company short term liquidity is payable on time and solvency cannot be
challenged;
- The company is able to repay their current obligation and can generate good
reserves from the positive cash flow;
- Short term interest rates are lower than higher so as there is less influence of
liabilities so they can pay them on time;
- The company is getting loans easily due to better working capital
- Goodwill of the company has been maintained.
-

Disadvantage:
- The company is operating on the higher long term loans which means that the
company’s working capital can be challenged in the near future;
- The current working capital cannot be financed for the long term projects so instead
of using the money for the new project, the company should be bring in other
financial plans.
- The stakeholders can see that the working capital is in positive so the demand of the
return can be there and long term returns can be on higher rate.
- The funds are not being utilized properly so no return is gained.

So, as per the above points, it can be seen that the company is operating in a debt module so
they should be focusing on increasing working capital so to survive in the business.
References:
1. Academia.edu, 2018, “Advantage & disadvantage of capital structure”, Available
from:
https://www.academia.edu/30802722/Advantage_and_Disadvantages_of_a_Capital_
Structure
2. Fundamentalof accounting, 2018, “Capital structure ratios”, Available from:
https://www.fundamentalsofaccounting.org/capital-structure-ratios/