Introduction to Capital Structure:
Capital structure refers to the composition of a company's long-term financing, which includes both equity and debt. It represents the way a company finances its operations and growth through a combination of equity and debt. The capital structure of a company has a significant impact on its financial performance, risk, and value. Various capital structure theories have been proposed to explain the optimal mix of equity and debt that a company should maintain.

Key Points:
1. Modigliani-Miller (M&M) Theory:
- Proposed by Franco Modigliani and Merton Miller in 1958.
- States that the value of a firm is independent of its capital structure in a perfect market without taxes or bankruptcy costs.
- According to this theory, the cost of capital is the same regardless of the mix of debt and equity.
- M&M theory has been criticized for its unrealistic assumptions and lack of consideration for taxes and bankruptcy costs.

2. Trade-off Theory:
- Developed by Myers in 1984.
- Suggests that there is an optimal level of debt for a company that balances the tax advantages of debt with the costs of financial distress.
- As a company increases its debt, the tax shield from interest payments increases, but so does the risk of financial distress.
- The trade-off theory suggests that companies should choose a level of debt that maximizes their value by balancing these factors.

3. Pecking Order Theory:
- Proposed by Myers and Majluf in 1984.
- Suggests that companies prefer internal financing (retained earnings) over external financing (debt or equity) to fund their investments.
- This theory is based on the idea that external financing is costly, and companies will only resort to it when internal funds are insufficient.
- The pecking order theory implies that companies will have a mix of debt and equity, with debt being used as a last resort.

4. Agency Cost Theory:
- Focuses on the conflicts of interest between stakeholders such as shareholders, managers, and debtholders.
- Argues that the capital structure decisions of a company are influenced by the agency costs associated with these conflicts.
- For example, managers may choose to issue more debt to reduce the monitoring and control by shareholders.
- The agency cost theory suggests that the optimal capital structure depends on the alignment of interests among stakeholders.

Conclusion:
The choice of capital structure is a crucial decision for companies as it affects their financial performance, risk, and value. Various theories have been proposed to explain the optimal mix of equity and debt. These theories include the Modigliani-Miller theory, trade-off theory, pecking order theory, and agency cost theory. Each theory provides a different perspective on the factors that influence capital structure decisions.