Analysis and Compare the Capital Structures

This report aims to analysis and compare the capital structures of two non-financial companies listed on FTSEALL index, which are Marks and Spencer plc and Oxford BioMedica plc. First section will describe the capital structure of each company. In the second section, the capital structures will be critically evaluated from different perspectives, in order to explain why the company choose such different capital structures.

Capital Structure

Marks and Spencer plc

Marks and Spencer (M&S) is one of UK's leader retailers, with operations in 42 territories globally. The company focuses on high quality clothing and home products, as well as outstanding quality food. The company's strategy is to achieve more international growth, as a way to reduce the risk related to UK economic cycle and expand business (Marks and Spencer Group plc, 2011).

The company has a debt of £2,526.4 million and equity of £6,524.6 million (Marks and Spencer Group plc, 2011). The debt to capital ratio is 0.28, which means that the company finances more by equity rather than by debt.

M&S 2011 £m

Debt capital interest bearing short-term debt 602.3

interest bearing long-term debt 1,924.1

Total debt 2,526.4

Equity capital Common stock 396.2

Capital in excess of par value 255.2

Retained earnings 5,873.2

Total equity 6,524.6

Debt to capital ratio 0.28

Oxford Biomedica plc

Oxford Biomedica (OB) is a leading company in the fields of immunotherapy and gene therapy. The company's target is to develop new medicines and treatments for diseases, so the company invests heavily on research and development. The company's mission focuses on becoming a top-tier biopharmaceutical company by focusing on the commercialization of innovative gene-based medicines.

The company carries nil debt, and equity of £4,143,000 (BioMedica Annual Report, 2011). The company is mainly based on equity financing, which, in combination with reducing costs and strong cash flow position, is able to finance its demanding Research and Development programs and general business operations.

OB 2011 £,000

Equity capital Common stock 9,449

Capital in excess of par value 124,755

Retained earnings -130,061

Total equity 4,143

Critical Evaluations

Variability of Operating Profit

Over the observed period, from 2008 to 2011, OB was continuing making losses, and the operating losses are very variable, and the standard deviation of the four year operating losses is 3424. This suggests that the company has a high business risk, so it will be difficult for the company to obtain debt, so it chooses to finance mainly through equity.

For the same period, although M&S was able to increase its revenue continually, its operating profit was declined. The standard deviation of the operating profit for the period is 180. Compared to OB, the variability is low, and its ability to increase revenue makes it much easier for M&S to raise debt.

Operating Profit

2008 2009 2010 2011 Standard Deviation

OB £'000 -13,671 -5,730 -12,011 -14,438 3424

M&S £'m 836.9 852.0 870.7 1,211.3 180

Assets Nature

An analysis of the assets reveals that the tangibility of the company, which is the ratio of fixed assets to total assets. OB's tangibility is 22.44%, while M&S's tangibility is 63.48%. According to Rajan and Zingales (1995), firms with low tangibility tend to have low leverage, because they do not have enough physical assets to be used as collateral for debt. The capital structure decisions of both companies are in line with this observation.

Total Assets Tangible Assets Tangibility

OB £'000 18,776 4,213 22.44%

M&S £'m 7,344.1 4,662.2 63.48%

Tax Advantage

Modigliani and Miller's proposition with tax suggests that under perfect capital market, the leveraged firm value equals to the unleveraged firm value plus tax shield, which is calculated by corporate tax rate multiplying debt D, as follows:

Therefore, leverage increases the firm value (reference). This is the most important reason that firms prefer financing via debt rather than equity.

The tax shield is significant to M&S with the operating profit offset by the interest payment. However, this is not the case for OB. The UK subsidiary