The Relation Between Profitability and Capital Structure: Evidence from Chinese Listed Companies

This study empirically examines the relationship between financial leverage and corporate performance in China’s A-share market, using data from 273 publicly traded firms between 2014 and 2019. The analysis evaluates the effects of leverage ratios, operational scale, and firm maturity on profitability, measured by ROE. The findings indicate that lower leverage, characterised by a lower debt-to-equity ratio, is associated with lower profitability due to increased financial distress risk and agency costs. In contrast, companies with more moderate levels of debt benefit from the tax shield effect of debt financing, which positively impacts profitability. Revenue has a significant positive relationship with ROE, emphasising the importance of sales growth in driving profitability, while company age shows no significant effect. The study further explores segmented regression analysis, revealing that capital structure decisions, particularly leverage, impact profitability in different segments. These findings offer crucial perspectives on how decisions related to capital structure affect profitability among Chinese listed firms, presenting practical guidance for investors and corporate executives in optimizing their financing strategies. The study contributes to the ongoing debate on the optimal balance between debt and equity financing, especially within China’s unique market and regulatory environment.