ISSN:1582-2559

GENERAL MANAGEMENT

The Effect Of Capital Structure, Firm

Size, And Firm Growth On Profitability
And Firm Value
Denny Chandra IRAWAN1, Nur Aisyah PULUNGAN2*, Bambang SUBIYANTO3, Dipa Teruna
AWALUDIN4
1Post Graduate Student at Universitas Mercubuana Jakarta, Indonesia, E-mail: dennycandrairawan@yahoo.com
2Universitas Mercubuana Jakarta, Jakarta, Indonesia, E-mail: aisyahpebrianti27@gmail.com
3Universitas Nasional, Indonesia, E-mail: bambangsubiyanto@gmail.com
4Universitas Nasional, Indonesia, E-mail: dipateruna@civitas.unas.ac.id

* Corresponding Author

Received: 06.01.2022 Accepted: 26.03.2022 Published: 01.04.2022 DOI: 10.47750/QAS/23.187.06

Abstract

This study aims to examine how capital structure, firm size, and firm growth affect profitability and firm value. The
research sample consisted of seven issuers of state-owned enterprises (BUMN) included in the infrastructure cluster,
with an observation period from 2015 to 2019. Quantitative data were then processed using multiple linear regression
techniques with Eviews 9 software. The study results revealed that capital structure had a negative and insignificant
effect on profitability. Meanwhile, firm size and firm growth affected profitability positively but not significantly.
Furthermore, profitability positively but not significantly affected firm value.

Keywords: Capital Structure; Firm Size; Firm Growth; Profitability; Firm Value.

important role (Basuki, Pulungan & Udin, 2020).

1. Introduction
Market availability is the primary factor that can trigger
investment opportunities. A conducive investment climate can
then boost the macroeconomy. From 2014 until now, the
government has given earnest attention to infrastructure
development to increase economic growth. One of them is in the
infrastructure sector. The infrastructure sector is deemed the
government's quick step in encouraging national economic
growth and job availability. In Indonesia, the growth trend of the
infrastructure industry can be viewed from the growth in the
number of budget allocations prepared by the government in the
infrastructure sector. This rising investment opportunities trend
can foster increased firm growth opportunities, thereby
escalating profit growth opportunities. Besides, profit growth
tends to amplify investor interest in purchasing firm shares
because it provides good return opportunities, which can then
shape firm value. The trend of increased state budget
allocations for infrastructure is also believed to impact firm value,
whose primary business is building construction and
infrastructure, such as toll roads, airports, ports, and the like.
However, based on data from the infrastructure firms’
financial statements from 2015 to 2019 (Finance Minister of
Indonesia, 2019), the trend of growth in the infrastructure market
provided by the government does not always generate an
increase in infrastructure firm value. The decline in infrastructure
firms’ net profit incites negative sentiment by the market towards
their values, although their total equity tends to grow. Total
assets show the amount of wealth owned by a company. The
amount of total assets indicates that the company has sufficient
cash flow to carry out its operational activities. Therefore, the
size of the company is considered to have an influence on the
company's profitability. In addition, to increase the value of the
company, innovation and managerial roles also play an
It is then interesting to study further regarding what are the
financial variables affecting profitability, in which, in the end,
profitability impacts firm value. Therefore, in this study, it is
assumed that the debt usage rate, firm growth, and firm size
affect the profit rate earned by the firm. In the end, it is estimated
that the profit rate will influence the firm value.
2. Literature Review
2.1 Firm Value
To determine firm value, several approaches can be used:
(1) Price Earnings Ratio (PER), (2) Price to Book Value (PBV),
and (3) Tobin's Q. In this study, the firm value was proxied by
PBV. PBV, generally, is reviewed by investors in valuing a firm's
shares for various reasons. One of them is that the PBV can
reference whether the stock price is undervalued or overvalued.
2.2 Capital Structure
Establishing a firm's capital structure illustrates the trade-off
between risk and return rates. Thus, the capital structure
determination is to find a balance between risk rate and return
rate, ultimately maximizing the stock price. Although debt and
equity levels may vary over time, most firms seek to keep their
activity financing mix close to the target capital structure limit. In
this research, the capital structure was seen through the Debt-
to-Equity Ratio (DER), which is usually employed to evaluate the
extent to which the firm can meet its short-term and long-term
obligations. DER, on the other hand, is a ratio used to estimate
how much a firm depends on debt in carrying out its business
activities (Van Horne & Wachowicz, 2005).

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2.3 Firm Size
The term firm size refers to the quantity expressed in specific
units to measure the business scale, such as total assets, total
sales, market capitalization, total revenue, and total sales. In this
study, the firm size was gauged by transforming the total assets
owned by the firm into a natural logarithm, Ln, to simplify the firm
size without changing the comparison of the actual assets. Firm
size was proxied by using Ln total assets.
2.4 Firm Growth
From an investor's point of view, sales growth measures the
firm's success in carrying out its business strategy. The growth
in sales is also an illustration that the firm can compete in its
industrial ecosystem. The higher the sales, the higher the profit
earned by the firm (Febriyanto, 2018). In addition, sales growth
refers to an increase in the number of sales from one year to the
next (Hansen, 2014). In this research, sales growth was
determined by the difference in the sales rate obtained this year
minus the sales rate gained in the last year, compared to the
sales rate last year.
DER (X1)
H1
H2
SIZE (X2) ROE (Z)
H3
Sales Growth
(X3)
3.1 The Effect of Capital Structure on
Profitability
Debt policy is a product of the firm's policy to attract capital
from outside the firm. This capital is then used to finance the
firm's activities. The use of debt in the capital structure will bring
benefits in the form of tax reduction on interest so that the use
of debt is considered profitable because it generates greater
profits. Previous research revealed a positive and significant
relationship between leverage ratios and profitability (Jariah,
2016), where these results show a unidirectional relationship;
when leverage is high, profitability is also high. Another view is
that firms tend to increase debt to get a tax deduction from
interest costs. With the reduction of taxes, the profitability will
increase (Chandra et al., 2019). Thus,
H1: Capital structure has a positive effect on profitability.
3.2 The Effect of Firm Size on Profitability
The firm size is an indicator that the firm has sufficient
resources, markets, assets, and capital to carry out its
operations. It can encourage investors to give a positive
assessment. Thus, firms will have the ease of accessing the
capital market and obtaining funding. According to previous
research, the bigger the firm, the better its profitability (Khajar,
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2.5 Profitability
The firm's profit rate in a specific period at a particular rate
of sales, assets, costs, and stock capital is defined as
profitability. Income and assets or capital rates to be compared
can be used to determine profitability. In this case, a firm that
can maintain its business’s profitability and stability can provide
positive insight into investors regarding its value, which drives
the increase in stock prices (Djashan & Agustinus, 2020).
The measurement of the profitability level can utilize several
ways or financial ratios: (1) Operating Margin, (2) Profit Margin,
(3) Return on Total Assets (ROA), (4) Basic Earning Power
(BEP) Ratio, and (5) Return on Common Equity (ROE). In this
study, profitability was calculated through ROE. This ratio
measures the firm's financial performance that compares net
profit with shareholder's equity. ROE can also describe how
effective the use of own capital is. From an investor's point of
view, this ratio is employed to determine whether an investment
in a firm will generate the expected return (Tandelilin, 2017).
3. Hypothesis Development
In developing the hypothesis, a conceptual framework is
developed. the conceptual framework in this study can be seen
as follows:
H4
PBV (Y)
Hersugondo, & Udin, 2020; Ozcan, Unal, & Yener, 2017). In
addition, a prior study provides an illustration that large firms’
shares tend to attract investors because they are traded in the
capital market in greater volume and frequency (Hirdinis, 2019).
Another assumption is that large firms have different markets to
promote their products, improving performance and leading to
higher profitability (Alarussi & Alhaderi, 2018). Therefore,
H2: Firm size has a positive effect on profitability.
3.3 The Effect of Firm Growth on Profitability
Rapid growth will force firms to think of strategies to maintain
and develop what they have acquired. High sales can also
indicate that the firm performs well in terms of revenue
generation, which is thought to lead to increased profitability.
The previous studies’ results have uncovered that the firm's high
growth can foster increased profitability (Hama & Santosa,
2018). In line with this, it was found that an increase in sales can
impact boosting profits. The greater the profit achieved by the
firm, it will be more able to meet its operational costs (Putri &
Rahyuda, 2020). Hence,
H3: Firm growth has a positive effect on profitability.
3.4 The Effect of Profitability on Firm Value
A rise in profit can increase the firm value as long as the firm
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has optimized the use of assets, increased sales of firm
products, and enhanced cost-efficiency (Hersugondo, Pertiwi, &
Udin, 2019; Oktaviani, Susanti, Sunarto, & Udin, 2019). The high
profitability ratio also reveals the good performance of assets in
generating profits. In line with signaling theory, high profitability
reflects the good performance of the firm's assets to be also
responded positively by the market. Good performance is
noticed from profit because it represents the return on
investment made by the firm. The results of earlier studies have
exposed the positive effect of profitability on firm value (Ifada,
Faisal, Ghozali, & Udin, 2019; Kontesa, 2015). In addition, firms
can also intensify profitability through efficiency, use of effective
equipment, and at the same time, enlarge the business size and
maintain growth rates, thereby escalating the firm value (Dang,
Vu, Ngo, & Hoang, 2019; Khanifah, Isgiyarta, Alfiana, & Udin,
2020).
H4: Profitability has a positive effect on firm value.
4. Methodology
Data were collected utilizing research instruments, which
were then analyzed by descriptive and inferential statistics. The
data and information were taken from the financial statements
of state-owned enterprises on the Indonesia Stock Exchange
website for the period 2015 to 2019. From the sampling test
results that applied specific limits and criteria (i.e., state-owned
enterprises registered and not delisted since 2015 to 2019 and
state-owned enterprises were not included in the cluster group
of the infrastructure service industry), seven firms met the
criteria and were used as a sample in the study.
5. Results
Test Probability
Chow 0.0831
Hausman 0.0559
Langrange Multiplier 0.0135
Table 1: Selection Of The First Equation Regression Model
The regression model using the Lagrange Multiplier approach can be seen in Table 2.
Variable Coefficient Std. Error
C -37.559 23.181
DER -0.126 0.638
SIZE 1.519 0.767
SG 0.028 0.020
Table 2: First Panel Data Regression Output
The first-panel data regression equation was: 𝑅𝑂𝐸𝑖𝑡 =
−37.559 − 0.126𝐷𝐸𝑅𝑡 + 1.519𝑆𝑖𝑧𝑒𝑡 + 0.028𝑆𝐺𝑡 + 𝜀𝑖𝑡 ., which
could be interpreted as follows. (1) Constant C was obtained at
37.559 with a negative mathematical sign. It indicated that if the
DER, SIZE, and SG variables were "0", then the ROE variable
was -37.559. (2) The regression coefficient for DER was 0.126
with a negative mathematical sign, meaning that DER negatively
affected ROE. Every 1% increase in DER would decrease ROE
by 0.126%, assuming that the other variables remained
constant. (3) The SIZE regression coefficient was 1.519 with a
positive mathematical sign. In other words, SIZE positively
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The statistical analysis results of firm value (PBV) showed
that the minimum value was 0.570 times, the maximum value
was 11.050 times, and the mean value was 2.331 times, with a
standard deviation of 2.221 times. The standard deviation
revealed a value smaller than the mean value, indicating no
large enough gap between the minimum and maximum PBV
values. Furthermore, to the distribution of profitability (ROE)
values, the statistical analysis results demonstrated the
minimum value of 0.860%, the maximum value of 18.460%, the
mean value of 10.019%, and the standard deviation of 3.971%.
Regarding the capital structure (DER) value, the statistical
analysis results disclosed that the minimum value was 0.110
times, the maximum value was 4.340 times, the mean value of
DER was 2.086 times, with a standard deviation of 1.159 times.
Furthermore, statistical analysis of firm size (Ln Total Assets)
exposed a minimum value of 28.820, a maximum value of
32.450, and a mean value of 31.140, with a standard deviation
of 0.961. Statistical analysis of the firm's growth (sales growth)
uncovered a minimum value of -35.670%, a maximum value of
110.620%, and a mean value of 19.143%, with a standard
deviation of 30.578%. The standard deviation value of the firm's
growth was much greater than the mean value. It signified a
relatively high gap between the minimum and maximum values,
illustrating the fluctuating distribution of sales growth values in
infrastructure state-owned enterprises from 2015 to 2019.
Two regression equation models were used, in which to
analyze the effect of capital structure (X1), firm size (X2), and
firm growth (X3) on profitability (Y), the regression equation used
was 𝑌𝑖𝑡 = 𝛼 + 𝛽1 𝑋1𝑡 + 𝛽2 𝑋2𝑡 + 𝛽3 𝑋3𝑡 + 𝜀𝑖𝑡 . Meanwhile, to
analyze the effect of profitability (Y) on firm value (Z), equation
𝑍𝑖𝑡 = 𝛼 + 𝛽4 𝑌𝑖𝑡 + 𝜀𝑖𝑡 was employed, in which Y acted as the
independent variable toward Z as the dependent variable. The
regression analysis of the first equation panel data using the
Eviews 9 is as follows:
Approach
CEM
REM
REM
T-Statistics Probability
1.620 0.115
0.189 0.844
1.979 0.057
1.408 0.169
influenced ROE. Every 1% increase in SIZE would increase
1.519% in ROE, presuming that the other variables remained
constant. (4) The SG regression coefficient of 0.028 with a
positive mathematical sign indicated that SIZE positively
impacted ROE. Thus, every 1% increase in SG would increase
ROE by 0.028%, believing that other variables remained
constant.
The regression analysis of the second equation panel data
can be seen in Table 3.
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GENERAL MANAGEMENT
Test Probability
Chow 0.0243
Hausman 0.0215
Table 3: Selection of the Second Regression Model
Thus, this test’s results suggested the use of the Fixed Effect
Model (FEM) as the best regression model. The test results of
Variable Coefficient Std. Error
C 2.135 1.074
ROE 0.019 0.102
Table 4: Second Panel Data Regression Output
The second regression equation was 𝑃𝐵𝑉𝑖𝑡 = 2,135 +
0,019𝑅𝑂𝐸𝑡 + 𝜀𝑖𝑡 . The equation could be inferred as follows. (1)
The constant C was 2.135 with a positive mathematical sign. It
stated that if the ROE variable was "0", then the PBV variable
was 2.135. (2) The regression coefficient for ROE was 0.019
with a positive mathematical sign, meaning that ROE positively
influenced PBV. Accordingly, every 1% increase in ROE would
impact an increase in PBV of 0.019%, assuming that the other
variables remained constant.
The analysis results showed that DER, SIZE, and SG could
only explain 10.8% of ROE. Likewise, ROE could only explain
2.2% of PBV. The first regression equation revealed that the F-
test value was 2.371, with a statistical probability of 0.089.
Meanwhile, the F-table value for the number of independent and
dependent variables (k) was 4, and the number of observations
(n) was 7, with a probability (α) of 5% was 9.28. Thus, F-count
< F-table, and probability > 0.05. The results uncovered that
DER, SIZE, and SG simultaneously affected but not significantly
on ROE. Furthermore, the second regression equation
produced an F-count value of 2.297, with a probability
significance of 0.057. Meanwhile, the F-table value for the
number of independent and dependent variables (k) was 2, the
number of observations (n) was 7, with the probability level (α)
set at 5% was 6.61. Thus, it was found that F-count < F-table,
and probability significance > 0.05, so the study results stated
that ROE affected but not significantly on PBV.
The partial t-test results on the first regression equation
showed that DER, SIZE, and SG affected but not significantly
on ROE. The test results on the second regression equation also
revealed that ROE had an effect but was not significant on PBV.
6. Discussion
6.1 The Effect of Capital Structure on
Profitability
The analysis results in this study indicated that DER had a
negative and insignificant effect on ROE. These results
explained a choice between debt and equity, reflecting the trade-
off between business and financial risk (Alarussi & Alhaderi,
2018). The use of more debt by the firm in its capital structure
will increase the interest expense, where the amount of interest
tends to reduce the firm's profit, although it is recognized that
infrastructure projects generally tend to be financed by debt.
Thus, this study’s findings suggest that infrastructure firms as
much as possible carry out effective debt management to
encourage the firm's success in increasing its net profit. With the
high ratio of debt utilization and the inability of infrastructure
firms to manage debt properly, it will impact high-interest
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Approach
FEM
FEM
the second equation panel data regression utilizing the FEM
approach are shown in Table 4.
T-Statistics Probability
1.987 0.057
0.192 0.849
expenses, which has the potential to reduce the firm's net profit
(Kartikasari & Merianti, 2016). There are several ways to reduce
the negative impact of debt; among them is the use of terms that
have been paid by the project owner to complete the remaining
work or even pay off debt early, where accelerated debt
payments will lower interest expenses. However, although DER
positively affects ROE, DER is not the main factor affecting
ROE.
This study’s results are in accordance with the assumption
that an increase in the debt ratio will reduce the rate of return
(Adita & Mawardi, 2018; Anggraeni & Rahyuda; Hamid,
Abdullah, & Kamaruzzaman, 2015; Singh & Bagga, 2019). On
the other hand, the positive relationship between DER and ROE
is reflected in the tax reduction through the use of debt (Chandra
et al., 2019; Hama & Santosa, 2018; Kartikasari & Merianti,
2016; Seissian, Gharios, & Awad, 2018).
6.2 The Effect of Firm Size on Profitability
The results presented a positive but not significant effect of
SIZE on ROE. It implies that the larger the firm size, the easier
it is for the firm to access the capital market and the higher the
bargaining power of the firm in financial contracts. It is where it
will increase the chances of getting a better return. Along with
the firm size, the greater the firm profitability level (Anggraeni &
Rahyuda; Hama & Santosa, 2018; Ozcan et al., 2017). In line
with the signaling theory, information about the infrastructure
firms’ size will boost market confidence, increasing the firm's
opportunities to earn profits from the capital market. In general,
investors believe that a large infrastructure firm tends to have
many resources that support its business processes so that its
business chain can run well (Dang et al., 2019).
6.3 The Effect of Firm Growth on Profitability
The research exposed that SIZE had a positive but not
significant effect on ROE. This insignificant effect could be
caused by the high growth rate of an infrastructure firm, requiring
sufficient capital to finance its activities, such as adding
production equipment, adding personnel to acquire and work on
infrastructure projects, and other business expansion activities,
which could lower its profits. For this reason, increased sales will
provide innovation space for infrastructure firms to raise profit,
one of which is boosting investor and/or debtor confidence so
that capital management from debt can be optimized. In
addition, increased sales will tend to boost investor confidence
so that financial instrument products issued by infrastructure
firms, such as bonds, commercial paper, and other financial
instruments, have the potential to be welcomed by the market,
thereby intensifying the opportunity for increased profits. The
high sales growth rate also indicates a firm’s ability to generate
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profits from product sales, although a high level of sales does
not guarantee that the firm will always generate high profits.
SIZE had a positive but not significant effect on ROE. Hence,
infrastructure firms must maintain their growth rate and utilize
production tools effectively and efficiently (Anggraeni &
Rahyuda; Dang et al., 2019; Djashan & Agustinus, 2020).
6.4 The Effect of Profitability on Firm Value
The results unveiled that ROE had a positive but not
significant effect on PBV. Good ROE growth gives a positive
signal to the market that infrastructure firms have good
opportunities in the future, making it easier for them to withdraw
capital from the market and increase their opportunities to get
better returns. Moreover, infrastructure provision is one of the
sectors that receive priority from the government. The higher the
profitability obtained by infrastructure firms, it will be able to
strengthen the tendency of investors to own firm shares. The
increase in the purchase of this firm's shares will indirectly
augment the value of the firm's shares in the capital market.
Therefore, to maintain the infrastructure firms’ profitability levels,
proper debt management, the efficiency of work processes and
methods, and optimization of infrastructure firms' assets
demand sufficient attention. Apart from that, the results also
showed that ROE is not the main factor influencing PBV.
The positive but insignificant effect of ROE on PBV
reinforces the view that a high profitability level will encourage
an increase in firm value (Kontesa, 2015; Purwanti, 2020;
Zuhroh, 2019). In contrast, the previous studies’ results found a
negative relationship between ROE and PBV (Djashan &
Agustinus, 2020). It is due to the assumption that to increase
their market capitalization, infrastructure firms can optimize their
capital structure by using net income to raise business capital
and firm assets.
7. Conclusion
Based on the analysis results and findings, this study
concluded that (1) capital structure (DER) had a negative and
insignificant effect on profitability (ROE), (2) firm size (SIZE) had
a positive but not significant effect on profitability (ROE), (3) firm
growth (SG) had a positive but not significant effect on
profitability (ROE), and (4) profitability (ROE) had a positive but
not significant effect on firm value (PBV).
8. Recommendation
Given that DER has a negative but not significant effect on
ROE, infrastructure companies are advised to manage the use
of debt effectively even though it is realized that the construction
of infrastructure projects generally comes from debt. The
payment terms that have been received by infrastructure
companies, apart from being used for working capital, can also
be used partially to pay off debts in stages
To increase profits, infrastructure companies can also
increase their sales by expanding the target market for
infrastructure such as government-owned, private-owned
infrastructure projects, projects funded by international financial
institutions and even looking for infrastructure project
opportunities in the international market. Infrastructure
companies are also advised to increase profits by increasing the
rate of sales growth and optimal debt management as well as
encouraging increased efficiency at the company's expense so
that it is expected to increase profitability which in turn can
increase company value.
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