BACKGROUND OF THE STUDY
Capital structure refers to the mix of long-term sources of funds, such as debentures, long-term debt, preference share capital and equity share capital including reserves and surpluses (i.e. retained earnings). Some firms do not plan their capital structure, and it develops as a result of the financial decisions taking by the financial manager without formal planning. These firms may prosper in short-run, but ultimately they may face considerable difficulties in raising funds to finance their activities. With unplanned capital structure these firms may also fail to economise their capital structure to maximize the use of the funds and to be able to adapt more easily to the changing conditions.
The technique of cash flow analysis is helpful in determining the firms debt capacity. Debt capacity is the amount which a firm can service easily even under adverse condition; it is the amount that the firm should employ. There may be lender who is prepared to lend to firm, but firm should borrow only if it can service debt without any problem. A firm can avoid the risk of financial distress if it maintains its ability to meet contractual obligation of interest and principal payment.
However, every firm has to choose what source of financing to use in making its decision. It should choose between debt and equity or both. Majority of Nigerian firms have not enough resources for their growth. This is why it is necessary for them to issue debt. In the conditions of macroeconomic uncertainty, it is necessary for firms to choose optimal sources of financing, because they have to support their stability and use capital more efficiently than their competitors.
Furthermore, a firm’s choice of debt maturity is an integral part of its capital decision. Firms which select an inappropriate maturity structure of payments risk serious financial difficulty. For example, a firm which finances new project with debt of short maturity, risks an unwanted rise in borrowing costs or even liquidation when credit conditions deteriorate. Likewise, firms which finance new projects with debt of long maturity may have unnecessarily high borrowing costs.
Motivated by the potentially large impact that inappropriate debt maturity choice can have on firm’s financial condition, we documented the determination of the debt maturity using eight (8) firms in Nigeria between 2007 and 2011. We used purposive sample size. It is our hope that a better understanding of the determinants of debt maturity can help financial expert build and refine model to guide corporate decision makers to face the debt maturity choices. Our empirical tests were based on the existing models.