Before September 30, 2017, there existed quotas for sugar beet production in the EU member states. They represented restrictions for sugar beet production in individual EU member states (MS) and reduced competition between the countries. Nowadays, neither sugar beet producers nor sugar beet growers are constrained by quotas. It increases the risk of a potential bankruptcy of sugar companies in less competitive areas, and continually affects the cultivation of sugar beet, which has not been a marketable commodity for a long–term period (Tóth and Pokrivčák, 2019). Sugar prices have been developing very specifically and dynamically in recent years. In the EU member states, due to the deregulation of the sugar market, the production increased approximately by 25% between 2016/2017 and 2017/2018. This situation, combined with the increase in isoglucose production, growing imports from the ACP countries, and changes in consumer preferences, puts significant pressure on the price, which stays at the low level (Řezbová et al., 2013).

To sustain competitiveness, it is necessary to look for effective ways to increase the profitability of the sugar beet business, not only to produce it. One option is to optimize the capital structure of a company, to achieve an optimal ratio between the financial sources of a company, to increase the profitability of a business. Moreover, it increases the market value of a company.

In the paper, the basic financial ratios (profitability ratios, debt ratios) of sugar beet producers in Slovakia are assessed and compared to other businesses (sugar beet non-producers). Moreover, the practical application of decision – making process whether to increase the indebtedness of the company is assessed. The outcome of managers´ decisions may have a positive impact on the return on equity. The increase in the return on equity and the growth of the market value of a company is the primary goal of each business in the market economy.

In the theory, there are several approaches how to optimize the financial structure of a company. We consider the authors Modigliani and Miller (1958) to be pioneers in capital structure optimization. In the Compromise theory (Brealey and Myers, 1992), the authors combined the M – M model with real market conditions and defined the optimal indebtedness as a compromise between the interest tax shield and the cost of financial distress. Other theories of optimal capital structure are the Theory of hierarchical order of authors Robischek and Myers (1966) or the Signalling model from Ross (1977). The traditional approach, the Theory of the U Curve, is also popular; according to Bartošová (2005), it accepts the validity of individual differences between companies in the level of indebtedness and claims, that the companies should have as much debt as they can handle themselves.

The theory of the U – curve, in comparison to the classical approach, admits that the growth of a company's indebtedness increases the risk of creditors, who compensate it by raising interest rates. Shareholders also compensate for the increase in risk by requiring a higher return on their capital. Therefore, a company can borrow at the normal interest rate until creditors start to consider the debt ratio as an indicator of increasing their risk. Subsequently, the weighted average costs of capital (WACC) start to increase as creditors provide additional loans only at a higher interest rate. Shareholders will also demand a higher return on invested capital due to growing debt risk. It means that till a certain moment, the total cost of capital decreases as the indebtedness increases, and then it begins to increase, which graphically reminds the shape of the "U" curve. The optimal capital structure is the point, where the cost of capital WACC reaches the minimum value. At this point, the highest market value of the company is achieved, too (Tóth et al., 2019). However, the theory deals with the problem of determining the cost of equity. Similarly, the other theories face several different problems in practical application.

An interesting approach to capital structure optimization is the theory of authors Neumaierová and Neumaier (1996). The advantage of their approach is the ability to replace the data on the cost of equity with the data from a company´s financial statements. The main objective is to provide managers with a model on how to decide about the appropriate level of indebtedness in a company.

However, it is important to realize that the negative aspect of increased debts in a company is the increased financial risk, and consequently, the threat of financial distress, which may result in the bankruptcy of the company (Hrdý and Krechovská, 2013).

To assess the level of return on equity and indebtedness of agricultural companies in Slovakia in 2017, individual data about sugar beet producers were used. Data for evaluation of selected ratios were obtained from information letters of MARD SR (Ministry of Agricultural and Rural Development of the Slovak Republic). Agricultural companies were classified into 2 groups, sugar beet producers and non-producers. The company was considered as a producer of sugar beet if the ratio of the sugar beet harvesting area to the total agricultural area LPIS (Land Parcel Identification System) was non – zero. Authors Tóth et al. (2019) used a similar classification criterion based on the share of sugar beet harvesting area to the LPIS area in their analysis, classifying farms into 4 groups.

Companies with a negative value of equity were excluded from the analysis. The final data set consisted of 1417 agricultural companies in the primary sector in 2017. The companies were legal entities operating on 1.298 thous. hectares (ha) according to LPIS. From the overall data set, 132 companies belonged to the sugar beet producers with a sugar beet harvesting area of 18.5 thous. ha out of the total area 215.785 thous. ha. The sugar beet production thus covered 8.6 % of the harvesting area on average.

The parallel, matrix, and pyramidal systems of financial and economic ratios are used not only in business practices but also in scientific research, as confirmed by several scientific studies. One of the most widely used decompositions of ratios is the Du Pont's decomposition of return.

Du Pont's return decomposition provides two theoretical variants, the decomposition of return on assets (ROA) and the decomposition of return on equity (ROE). In company practice, the exclusive use of equity capital is relatively rare. External sources in the capital structure affect the final performance of the company and cause the distinguished ROA and ROE values. The share of debt on the total capital is important, determining the intensity of leverage. Therefore, the basic Du Pont equation is further expanded, allowing the second form of decomposition (Kotulič et al., 2010):

(1) R O E = E A T E q u i t y * A s s e t s A s s e t s = E A T A s s e t s * A s s e t s E q u i t y

Where:

The equation for return on equity can be transformed using different categories of profit – earnings before interest and taxes (EBIT), earnings before taxes (EBT), and earnings after taxes (EAT). The following calculation can be expressed as (Holečková and Grunwald, 2001):

(2) R O E = E A T E q u i t y * A s s e t s A s s e t s * E B I T E B I T * E B T E B T = E B I T A s s e t s * E B T E B T * A s s e t s E q u i t y * E A T E B T

From that relationship, it follows that the return on equity may be broken down into:

EBIT/Assets – BEP ratio (basic earning power) or return on total capital; EBT/EBIT – interest burden ratio (interest rate reduction of profit), Assets/Equity – leverage, EAT/EBT – tax burden ratio (tax reduction of profit).

From these relations, it is clear that the ROE is affected by the return on total assets, taxation, and the level of debt in a company. The impact of indebtedness on the return on equity is expressed by the two above-mentioned factors: interest rate reduction of profits and financial leverage, which are acting in a contradictory way. The ratios used in the analysis are the following:

(3) R e t u r n   o n   e q u i t y ( R O E ) = E A T E q u i t y * 100

(4) E A T   o n   h a   o f   a r e a   L P I S = E A T A g r i c u l t u r a l   a r e a   i n   h a

(5) E q u i t y   o n   h a   o f   a r e a   L P I S = E q u i t y A g r i c u l t u r a l   a r e a   i n   h a

(6) I n d e b t e d n e s s = T o t a l   d e b t ( i n c l u d i n g   a c c r u a l s ) T o t a l   c a p i t a l * 100

(7) F i n a n c i a l   l e v e r a g e = T o t a l   c a p i t a l E q u i t y

(8) B E P = E B I T T o t a l   a s s e t s * 100

To be able to evaluate the companies, the basic descriptive statistics are used:

In the case of examining 1000 companies, if the value of ROE in a given year reached 5% in the lower quartile, 25% of the companies with the lowest results would reach ROE up to 5%. The remaining 750 enterprises reached ROE more than 5%. Analogically, it can be applied to the median and the upper quartile. The distribution of the results into quartiles was similarly used in the comparison of financial ratios of Slovak sugar factories (Lukáč, 2020).

For evaluation of whether the company can increase its profitability by increasing the level of debt, we use the Neumaiers model. The model is based on the decomposition of the ROA, with the EBIT in the nominator and the total assets in the denominator. In the paper, we adjusted the terminology used by Neumaier to present the currently used abbreviations (e. g. profit replaced by EBT – earnings before taxes). Neumaier's expressed the ROE as a function of:

(9) R O E = E A T E q u i t y = E A T E B T * A s s e t s E q u i t y * [ E B I T A s s e t s − I n t e r e s t s Borrowings * ( 1 − E q u i t y A s s e t s − D e b t A s s e t s ) ]

(10) E B I T A s s e t s > I n t e r e s t s Borrowings * [ 1 − D e b t A s s e t s ]

In the comparison of the BEP ratio with the interest rate, the company paid for borrowed capital (debt), while the interest rate was reduced aliquotly. If the relationship is valid (Kotulič et al., 2010), then the company can be in debt. If the sign is opposite, it is not worthy for the company to be indebted. If the sign is equal, then ROE does not depend on indebtedness. For the cost of debt in the analysis, the agreed average annual interest rate reported by the NBS in 2017 for total loans to non – financial corporations was used. Its value of 2.4070% was used as a constant, based on the Neumairs methodology.

Sugar beet is an important crop in Europe, with the production of around 120 million tones in 2018, representing almost 45% of the world’s production (FAOSTAT, 2019). Sugar beet is grown in our conditions only to obtain sucrose, while its cultivation contributes to the by-products of its processing (slices, sweetened cuttings, molasses) as well as to certain payments in feed balances. (Bojňanská et al., 2011; Camara-Salim et al., 2021; Mujumdar, 2014). The year 2017/18 was the first year in the sugar sector after the abolition of quotas. This has been reflected in record-breaking results in the amount of sugar produced in the EU. The authors Buysse et al. (2007) dealt with farm-based modeling of the EU sugar reform. Simulation results from a sample of Belgian sugar beet farms show that the sugar CMO (common market organization) reform includes different supply and income effects across farms depending on their share of out-of-quota sugar beet relative to their total beet supply and their quota rent. In Slovakia, the abolition of quotas has not significantly affected sugar beet cultivation. According to the data of the Statistical Office (SO) of SR, the total sugar beet harvested area in 2017 was increased, but only by 4.2% (22.38 thous ha). With an average yield of 55.00 t per ha, sugar beet production achieved 1 230.79 tones, from which 179.5 thous. tons of sugar were produced. In 2017, the year–on–year price of sugar beet decreased by 9.5% to 24.61 EUR/t (including subsidies) (Meravá, 2019).

Theoretical studies suggest that subsidies may have a positive impact on farm production and at the same time a negative impact on farm productivity (Kozáková et al., 2014). Inefficiency in sugarbeet production results in a shortfall of potential revenues not only for producers but also for landlords and processors (Wu et al., 2003). Support of business can bring along the risk of government failure in the form of misuse of such help by its beneficiaries for their enrichment (Prochazkova et al., 2015).

Not only the production quotas but also the system of export licenses outside the European market has been terminated. The minimum price for sugar beet and the reference price for sugar has been abolished (Zdráhal et al., 2020). In the analysis of the relationship between sugar prices according to the International Sugar Organization (ISO) and sugar prices in selected stock exchanges (USA, UK, India, Brazil, Mexico, China, Russia), the impact of the world price of sugar on prices in individual markets (except for Russia) has been pointed out (Smutka et al., 2019).

The abolition of the sugar quota in 2017 constitutes a turning point for the sugar sector in the European Union. Domestic sugar prices are increasingly linked to world market prices, which used to be far below the EU´s in the past. Therefore, questions arise about the EU sugar sector´s response to the new market situation without quota and whether sugar beet farming will remain profitable in the future (Wimmer and Sauer, 2020).

The price of sugar beet affects the profitability of its cultivation, as well as the overall profitability of a company. Business owners are primarily interested in the results of return on equity. The owners and investors usually demand the profit on deposited capital to be higher in comparison to other potential investment abilities (e.g. buying bonds, depositing money in financial institutions) (Tóth et al., 2019; Klieštik and Valášková, 2013). The cost of capital is the minimum rate of recoverability which a company must generate to satisfy its creditors, owners, and other providers of capital because otherwise, they will invest elsewhere (Pratt and Grabowski, 2010). In the case of loans, the company must be able to meet the requirements of debt providers by paying interest. According to the Van Binsbergen et al. (2010), the cost of foreign capital is a complex variable representing the cost of debt capital, which is a tax-deductible expense, and it corresponds to the required yield of a creditor taking into account risks and costs of lost opportunities. Therefore, it is desirable for the owners that the return on total capital (BEP) is greater than the cost of debt (represented by the interest rate).

Models of quantification of capital costs and capital structure are solved by many authors (Klieštik and Valášková, 2013; Grabowski, 2009; Porras, 2011; Vo, 2021).

Kotulič et al. (2010) explain the positive and negative leverage as follows:

Although strong companies with prospects for prosperity are gradually emerging in the sugar industry, most economic and financial indicators have recorded average negative trends. The problems are caused by the high price of the raw material and the low possibility of selling sugar (Suhr and Schulze, 2003).

In 2017, the CAP production quotas for sugar were abolished, resulting in the increased sugar production in the EU. The increase in production leads to pressure on the price decrease and may threaten the competitiveness of sugar beet producers and growers. Therefore, the farmers not only have to pay attention to the production levels but also to finding ways to increase the profitability of the business.

One of the options is the use of the leverage effect, which results in the potential increase in the return on equity. The leverage effect can be applied if the return on total capital is higher than the cost of debt. Then, by increasing the indebtedness, the company will increase the return on equity. Firms that do not achieve a sufficiently high return on total capital should try to reduce the level of indebtedness, which would also have a positive impact on the return on equity, through the effect of financial leverage. Almost 53.1% of sugar beet producers in Slovakia can positively influence their return on equity by increasing the level of indebtedness.

In 2017, the return on equity of sugar beet producers in Slovakia reached lower results in comparison to sugar beet non-producers. In general, the return on equity for all agricultural companies is at a low level, except for 25% of non-producers of sugar beet in the upper quartile (with the highest values). These companies achieved a return on equity of 15.19%, which is three times higher in comparison to sugar beet producers in this quartile. The differences in return on equity are explained by the lower level of equity per ha and thus higher indebtedness of non-producers of sugar beet.

We recommend the sugar beet producers increase the level of indebtedness for two reasons.

Firstly, interest rates are at a low level and the indebtedness of sugar beet producers is lower in comparison to non-producers of sugar beet.

Secondly, if the cost of debt in the company is below the return on total capital (BEP), an increase in indebtedness increases return on equity.

The leverage effect is a mathematical matter that can be applied in any company. However, it should be noted that the managers have to be careful when increasing the level of indebtedness. The negative aspect of debt financing is the fact that from a certain level of debt, there is a higher risk of financial distress, which can lead to a company´s bankruptcy.