After Modigliani and Miller, Jensen and Meckling discussed the agency cost theory which refers to the potential conflict between managers and shareholders in one side, and between shareholders and debtors in another side.
Since Jensen and Meckling’s argument the relationship between capital structure and firm performance, many researchers have begun to study the relationship between capital structure and firm performance.
The results show that there is a negative significant relationship between capital structure and firm performance.
Capital structure; Firm performance; Return on asset; Return on equity; Earning per share; Debt ratio The main objective of the firms is to maximize its profits and in the same time minimize its costs, when companies search about resources to finance its investments they take this objective in consideration.
Tradeoff theory expect that corporations choose levels of debt in order to achieve a balance among the benefits from the interest tax shield with the costs related to a future financial distress or with current financial inflexibility.
The agency theory: Agency cost theory which provided by Jensen and Meckling is discussing the conflict of interest between principals (shareholders) and decision makers (agents) of firms (managers, board members, etc), this conflict stems from the differences in behavior or decisions by point out that the parties (agents and shareholders) often have different goals, and different tolerances toward risk.
Trade-off theory: Trade off theory is an extension of the MM theory developed by Miller.
The theory proposes that the firm's optimal capital structure include the tradeoff among the influences of firms and personal taxes, agency costs and bankruptcy costs, etc.
Capital structure has been defined by many authors and scholars.
However, these definitions are explicit and have the same meaning.