Research Journal of Finance and Accounting www.iiste.org ISSN 22221697 (Paper) ISSN 22222847 (Online) Vol 3, No 9, 2012 1            Muhammad Umar 1 Zaighum Tanveer 1 Saeed Aslam 1 Muhammad Sajid 2, 3* 1. Department of Business Administration, Air University, Islamabad, Pakistan. 2. Lecturer at MohiudDin Islamic University, Islamabad, Pakistan. 3. PhD Scholar, COMSATS Institute of Information Technology, Islamabad, Pakistan. * Email of the corresponding author: chsajid_24@yahoo.com, Tel: +923146160441  This research examines the impact of capital structure on firms’ financial performance in Pakistan of top 100 consecutive companies in Karachi Stock Exchange for a period of four years from 2006 to 2009. Exponential generalized least square regression is used to test the relationship between capital structure and firms’ financial performance. The results show that all the three variables of capital structure, Current Liabilities to Total Asset, Long Term Liabilities to Total Asset, Total Liabilities to Total Assets, negatively impacts the Earning before Interest and Taxes, Return on Assets, Earning per Share and Net Profit Margin whereas Price Earning ratio shows negative relationship with Current Liabilities to Total Asset and positive relationship is found with Long Term Liabilities to Total Asset where the relationship is insignificant with , Total Liabilities to Total Assets. The results also indicate that Return on Equity has an insignificant impact on Current Liabilities to Total Asset and Total Liabilities to Total Assets but a positive relationship exists with Long Term Liabilities to Total Asset. These results, in general, lead to the conclusion that capital structure choice is an important determinant of financial performance of firms. This is the first study in Pakistan examining the relationship between firms’ performance and capital structure of top 100 consecutive companies in Karachi Stock Exchange for a period of four years.  Capital Structure, Firms’ Performance, Performance Measures, Profit, Pakistan. !  Capital structure and its influence on the firm financial performance and overall value has been remained an issue of great attention amongst financial scholars since the decisive research of (Modigliani & Miller, 1958) arguing that under perfect market setting capital structure doesn’t influence in valuing the firm. This proposition explains that value of firm is measured by real assets not, the mode they are financed. (Jensen & Meckling, 1976) drew concentration to the impact of capital structure on the performance of enterprises, number of tests as an extension port to inspect the relationship between performance of firm and financial leverage. However the results documented were contradictory and mixed. Some studies have reported positive relationships (Ghosh & et al, 2000). (Hadlock & James, 2002) also support the argument. Several others have reported a negative relationship between debt and financial achievement like (Fama & French, 1998) and (Simerly & Li & 2000). Capital structure is said to be closely link to the financial performance (Zeitun & Tian, 2007). Influential paper of (Jensen & Meckling, 1976), high leverage may initiate clashes between managers and shareholders due to selection of investment either equity, debt or hybrid.(Myers, 1977).The risk they want to take (Jensen & Meckling, 1976, Williams 1987), circumstances due to which firm might be liquidated (Harris & Raviv, 1990), and the dividend policy (Stulz, 1990). verifiable predictions of such type of models is that the raise in leverage should decline agency costs of ownership and debt holders thus improving business performance, everything else remained the same as before. However, when the leverage is relatively high to a certain limit, leads to an increase in debt and it will increase cost of debt, including an increase cost of bankruptcy or financial distress due to conflicts between equity holders and bondholders. To make distinction between these two sources of agency costs empirically is very difficult. Although this theory is the finest diverse empirical confirmation in the literature (Harris & Raviv, 1991; 2000). (Myers & Titman, 2001) may also be reviewed for evidence. Testing of hypothesis of agency cost involves regressing of financial performance measures over debt/equity ratio or any added identifier of leverage along with