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Article
Publication date: 1 April 2022

Tarek Miloud

The purpose of this paper is to test the validity of dynamic tradeoff theory and argue that the speed of adjustment toward the target capital structure may vary depending…

1746

Abstract

Purpose

The purpose of this paper is to test the validity of dynamic tradeoff theory and argue that the speed of adjustment toward the target capital structure may vary depending primarily on some inherent firm characteristics.

Design/methodology/approach

The objective of this article is to study the impact of the corporate governance arrangements on the capital structure behavior taken by listed French firms. The author measures the corporate governance arrangements in three different ways to capture its influences on the capital structure and analyze how it affects a firm's rebalancing behavior in the presence of relevant control variables. Assuming that costs related to deviations from the target leverage are positively correlated with the duration of the deviation, the author finds that firms with a strong governance system adjust at a faster rate because the longer the deviation lasts, the greater the loss in firm value. In addition, firms with more efficient governance structures face lower adjustment costs.

Findings

The author measures corporate governance quality in different ways by using several proxies. The results make a major contribution to the literature and show that the quality of the governance system is an important factor in helping the company achieve fatly its target leverage. The authors produces further support for the initial finding by showing that the two extreme leverage deviation groups are dominated by firms with weak governance. The author also shows that the rebalancing speed is faster for firms with strong governance systems.

Originality/value

The paper proposes that a firm characterized by a strong governance system will display a shorter-duration deviation from the target capital structure and a higher adjustment level than a firm with weak governance. In other words, the author argues that the deviation from the target capital structure and the adjustment level are related to the quality of corporate governance. The results indicate that firms with a stronger governance structure are characterized by shorter-term deviations from the target. The author also finds that firms belonging to the two subsamples where leverage deviation is at extremely high or low levels are characterized by a weak governance system. The results corroborate the hypothesis on the speed of adjustment toward the desired target leverage. Furthermore, the author empirically proves that the adjustment level of firms with stronger governance is higher in both extreme leverage situations. This paper extends the existing literature on capital structure adjustment by introducing the effect of corporate governance.

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Publication date: 1 October 2014

Jugnu Ansari and Ashima Goyal

If banks solve an inter-temporal problem under adverse selection and moral hazard, then bank specific factors, regulatory and supervisory features, market structure, and…

Abstract

If banks solve an inter-temporal problem under adverse selection and moral hazard, then bank specific factors, regulatory and supervisory features, market structure, and macroeconomic factors can be expected to affect banks’ loan interest rates and their spread over deposit interest rates. To examine interest rate pass-through for Indian banks in a period following extensive financial reform, after controlling for all these factors, we estimate the determinants of commercial banks’ loan pricing decisions, using the dynamic panel data methodology with annual data for a sample of 33 banks over the period 1996–2012. Results show commercial banks consider several factors apart from the policy rate. This limits policy pass-through. More competition reduces policy pass-through by decreasing the loan rate as well as spreads. If managerial efficiency is high then an increase in competition increases the policy pass-through and the vice-versa. Reform has had mixed effects, while managerial inefficiency raised rates and spreads, product diversification reduced both. Costs of deposits are passed on to loan rates. Regulatory requirements raise loan rates and spreads.

Details

Risk Management Post Financial Crisis: A Period of Monetary Easing
Type: Book
ISBN: 978-1-78441-027-8

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Article
Publication date: 5 June 2017

Islam Abdeljawad and Fauzias Mat Nor

The purpose of this paper is to investigate how the timing behavior and the adjustment toward the target of capital structure interact with each other in the capital structure…

1143

Abstract

Purpose

The purpose of this paper is to investigate how the timing behavior and the adjustment toward the target of capital structure interact with each other in the capital structure decisions. Past literature finds that both timing and targeting are significant in determining the leverage ratio which is inconsistent with any standalone framework. This study argues that the preference of the firm for timing behavior or targeting behavior depends on the cost of deviation from the target. Since the cost of deviation from the target is likely to be asymmetric between overleveraged and underleveraged firms, the direction of the deviation from the target leverage is expected to alter the preference toward timing or targeting in the capital structure decision.

Design/methodology/approach

This study used the GMM system estimators with the Malaysian data for the period of 1992-2009 to fit a standard partial adjustment model and to estimate the speed of adjustment (SOA) of capital structure.

Findings

This study finds that Malaysian firms, on average, adjust their leverage at a slow speed of 12.7 percent annually and this rate increased to 14.2 percent when the timing variable is accounted for. Moreover, the SOA is found to be significantly higher and the timing role is lower for overleveraged firms compared with underleveraged firms. Overleveraged firms seem to find less flexibility to time the market as more pressure is exerted on them to return to the target regardless the timing opportunities because of the higher costs of deviation from the target leverage. Underleveraged firms place lower priority to rebalance toward the target compared with overleveraged firms as the costs of being underleveraged are lower and hence, these firms have more flexibility to time the market.

Research limitations/implications

The findings of this study support that firms consider both targeting and timing in their financing decisions. No standalone theory can interpret the full spectrum of empirical results. The empirical work is based on partial adjustment model of leverage; however, this model has been criticized by inability to distinguish between active adjustment behavior and mechanical mean reversion. This is an avenue for future research.

Originality/value

This study investigates if targeting and timing behaviors are mutually exclusive as theoretically expected or they can coexist. A theoretical explanation and an empirical investigation support the conclusion that firms consider both targeting and timing in their financing decisions. This study provides evidence from Malaysian firms that are characterized by concentrated ownership structure and separation of cash flow rights and control rights of the firm due to pyramid ownership structure. Therefore, it provides evidence on how environmental characteristics may affect the capital structure determinants of the firm.

Details

International Journal of Managerial Finance, vol. 13 no. 3
Type: Research Article
ISSN: 1743-9132

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Article
Publication date: 19 December 2022

Yusuf Babatunde Adeneye, Ines Kammoun and Siti Nur Aqilah Ab Wahab

This study aims to examine the impact of sustainable practices as proxied by the environmental, social and governance (ESG) score on capital structure. It also investigates…

4857

Abstract

Purpose

This study aims to examine the impact of sustainable practices as proxied by the environmental, social and governance (ESG) score on capital structure. It also investigates whether ESG performance influences the speed of adjustment (SOA) to target leverage in firms.

Design/methodology/approach

The sample covers 116 non-financial firms listed on the main stock exchanges from five Southeast ASEAN countries (Bursa Malaysia, Indonesia Stock Exchange, Philippines Stock Exchange, Singapore Stock Exchange and Stock Exchange of Thailand) over the period 2012–2019. The study adopts the OLS regression and system-GMM estimators to perform the data analysis.

Findings

The authors show that the ESG score is positively associated with book leverage, suggesting that firms increase their debt capital through sustainable practices. However, they find that the ESG score is negatively associated with market leverage across our model estimations. The authors also reveal that environmental, social and governance pillar scores produce about 7.82%, 2.88% and 0.47% SOAs, respectively, higher than the SOA of the traditional SOA without the ESG factor. The aggregate ESG score has about 3.41% SOA higher than the baseline SOA without the ESG factor.

Practical implications

This study is of interest to investors, corporate firms and policymakers. The study demonstrates that the ESG score increases the firm’s SOA to target leverage. By disaggregating the ESG score, the authors establish that ESG pillar scores produce higher SOAs than the traditional SOA (without ESG), with the environmental score inducing the fastest SOA. Practically, the study implies that environmentally sustainable activities reduce environmental transaction costs, benefit firms through better information transparency and enhance a trustful climate between the firm and suppliers of capital. Therefore, this study demonstrates that firms do not only incur the cost of disseminating ESG information but also benefit from lower information asymmetry and a higher SOA with better tax-deductible advantages.

Social implications

The findings have combined advantages for both stakeholders and directors who monitor and manage the firms’ resources to improve the quality of ESG practices and initiatives.

Originality/value

To the best of the authors’ knowledge, this study is among the first to establish that sustainable practices induce higher debt capital. Secondly, unlike prior research focusing on the cost of capital, the authors examine whether ESG performance affects capital structure patterns. Thirdly, it documents the extent to which sustainable practices influence the SOA towards target leverage in firms. The authors contribute to corporate finance literature that firms reach faster to their target leverage in the presence of ESG performance. Theoretically, through the notion of the stakeholder proposition, the study establishes that the firms’ pursuance of stakeholder goals further enhances the prediction of the trade-off theory.

Details

Sustainability Accounting, Management and Policy Journal, vol. 14 no. 5
Type: Research Article
ISSN: 2040-8021

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Article
Publication date: 14 September 2022

Apoorva Arunachal Hegde, Venkateshwarlu Masuna, Ajaya Kumar Panda and Satish Kumar

This paper aims to conduct bibliometric analysis on the studies dealing with capital structure’s speed of adjustment (SoA) and identify the prominent themes while suggesting…

436

Abstract

Purpose

This paper aims to conduct bibliometric analysis on the studies dealing with capital structure’s speed of adjustment (SoA) and identify the prominent themes while suggesting future research directions in the area. The existing reviews broadly focus on the capital structure, which provides the scope for conducting a review on this sub-aspect of capital structure.

Design/methodology/approach

This study uses a three-stage process to conduct this review: identification of academic journals, selection and analysis of target papers. This study uses a combination of bibliometric tools and a system thinking approach to assess the current status of publications and emerging themes within the literature.

Findings

This study has found a progressive evolution of SoA in capital structure research from 1984 to 2021. Studies largely focus on implementing the dynamic models to analyse the impact of adjustment costs, dynamic economic conditions, corporate governance practices and other variables on the firms’ adjustment speed and financial decisions. The network analysis of citations, keywords and clusters gives further knowledge on the intellectual structure of the data.

Research limitations/implications

This study is highly dependent on the papers available within the SCOPUS database. Studies not included herein are not part of this analysis, which may or may not bear an effect on the study’s findings.

Originality/value

To the best of the authors’ knowledge, the application of systems engineering concept of “system thinking approach” to identify literature gap and suggest directions for forthcoming research is the first of its kind, thus adding a novel and multidisciplinary aspect to this study.

Details

Qualitative Research in Financial Markets, vol. 15 no. 2
Type: Research Article
ISSN: 1755-4179

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Article
Publication date: 10 August 2023

Abdullah Bugshan and Walid Bakry

This paper aims to examine the relationship between Shariah compliance and corporate capital structure decisions. This study explores the variation of capital structure speed of…

340

Abstract

Purpose

This paper aims to examine the relationship between Shariah compliance and corporate capital structure decisions. This study explores the variation of capital structure speed of adjustment.

Design/methodology/approach

The authors’ sample includes a sample of the largest 200 nonfinancial firms trading in the Malaysian and Pakistan stock markets. This study uses ordinary least squares and dynamic two-step system generalized method of moments to test the hypotheses of the study.

Findings

The results show that Shariah-compliant firms use a lower level of leverage than the noncomplaint firms. Moreover, while both types of firms have optimal capital structures, the speed of adjustment toward the targets is slower for Shariah-complaint firms than non-Shariah-compliant firms. This variation can be seen through the different levels of market imperfection experienced by the two types of firms. Shariah-compliant firms follow Islamic rules that restrict the type and degree of leverage, thus affecting the availability of external funding to Shariah-compliant firms.

Research limitations/implications

The findings call for more development and innovation of financing instruments that comply with Shariah rules that will increase of supply of external funds for Shariah-compliant firms and, thus, reduce market imperfections that are faced by Shariah-compliant firms.

Originality/value

The study contributes to the limited number of studies that examine the nexus between conventional corporate theories and Islamic corporate finance.

Details

Journal of Islamic Accounting and Business Research, vol. 16 no. 1
Type: Research Article
ISSN: 1759-0817

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Article
Publication date: 15 April 2020

Yukti Bajaj, Smita Kashiramka and Shveta Singh

The purpose of this study is to investigate the dynamics of capital structure for businesses in China and India. Whether and how they adjust their capital structures to witness…

1091

Abstract

Purpose

The purpose of this study is to investigate the dynamics of capital structure for businesses in China and India. Whether and how they adjust their capital structures to witness the trade-off behaviour in the light of different macro-level factors.

Design/methodology/approach

Firms listed on the National Stock Exchange and Shanghai Stock Exchange over the period of 2009-2018 are used for the study. System generalized method of moments proposed by Blundell and Bond (1998) is deployed due to the use of dynamic short panel data.

Findings

Indian firms revert to their target leverage ratios at a higher rate as compared to Chinese firms (30 and 20 per cent, respectively). Further, the inflation rate, bond market and stock market development are significant factors impacting leverage in the case of India, whereas bond market development significantly impacts leverage in the case of China. These results are robust across various definitions of leverage and other firm and institutional control variables.

Research limitations/implications

This study has implications for various stakeholders. The study highlights that development in financial markets and economy impact the financing decisions and should be a cause for concern for the financial managers and policymakers. Thus, managers can use the findings of the study if they desire to maintain their target capital structures for better firm valuation and the policymakers can support them in achieving the same. Even, the investors can make informed investment decisions considering macro-level factors impacting firms’ financing choices.

Originality/value

It is believed to be the first piece of research effort to consider the novel paradigm of the macro-level factors impacting the target leverage to estimate the adjustment speed. Secondly, it is a pioneering study, which attempts to compare the trade-off behaviour of the top two emerging economies of the world.

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Article
Publication date: 9 March 2022

Tasneem Khan, Mohd Shamim and Mohammad Azeem Khan

The purpose of this paper is to examine the optimal leverage ratio, speed of adjustment, and which factors contribute to achieving the target of selected telecom companies in a…

591

Abstract

Purpose

The purpose of this paper is to examine the optimal leverage ratio, speed of adjustment, and which factors contribute to achieving the target of selected telecom companies in a partial adjustment framework from 2008 to 2017. Further is to analyze the likelihood of bankruptcy of sample companies by Altman Z-Score model and to suggest which theory of capitals structure is better in explaining leverage strategies and judicious mix of debt and equity structure of the selected telecom companies.

Design/methodology/approach

This paper chooses a partial adjustment model and uses the generalized method of moments technique to identify the variables that influence the target leverage ratio and the factors that influence the speed at which the target leverage is adjusted. Second, the Altman Z-score model is used in this paper to research the financial status of telecom companies using financial instruments and techniques.

Findings

For Indian telecom firms, firm-specific variables such as profitability, NDTS and Z-score lead to greater debt adjustment towards optimal level target leverage. The paper also highlights new paradigms in the Indian telecom sector, stating that top market leaders such as Bharti Airtel, BSNL, Idea, Vodafone and R.com, among others, should focus on debt reduction and interest payments, as well as implement new strategies to solve the crisis and change financial policies.

Research limitations/implications

It mainly focuses on firm-specific variables because the firm-specific variables affect the leverage framework. The country-specific variables are not taken into the study. These results may be unique to telecom companies due to some peculiarities existing in the telecom sector in India. Although other sectors, both national and international level, can be taken into consideration.

Practical implications

This paper has ramifications for corporate executives, investors and policymakers in India, for example, in terms of considering different transition costs while changing a telecom company’s financing decisions.

Originality/value

To the best of the authors’ knowledge, this is the first paper of its kind to look at both financial and econometric tools to assess financial performance using the Altman Z-Score model, as well as decide leverage strategies and the pace with which they can be adjusted to target leverage in the context of Indian telecom companies.

Details

Indian Growth and Development Review, vol. 15 no. 1
Type: Research Article
ISSN: 1753-8254

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Article
Publication date: 7 April 2015

Amilcar Menichini

– The purpose of this paper is to investigate the phenomena of convergence and stability of leverage reported by Lemmon et al. (2008).

1785

Abstract

Purpose

The purpose of this paper is to investigate the phenomena of convergence and stability of leverage reported by Lemmon et al. (2008).

Design/methodology/approach

A dynamic trade-off model of the firm was used to simulate investment, leverage, and payout decisions for different types of firms. From an econometric standpoint, the Efficient Method of Moments was used to recover the structural parameters.

Findings

The structural model generates a leverage ratio that oscillates around a long-run, time-invariant level and consistently reproduces the convergence and stability of leverage reported by Lemmon et al. (2008). The model also suggests the causes of those observed properties of the data. That is, convergence is due to the mean-reversion of profits while stability is due to the different fundamental characteristics (e.g. capital elasticity, volatility of profits, etc.) of the firm.

Practical implications

Determining the optimal capital structure of a firm is a complex problem that has challenged academics and practitioners for a long time. Understanding leverage decisions is of great importance not only for financial managers, but also for investors, such as banks, debt-holders, equity-holders, and other capital providers, who need to understand how firms make capital structure decisions in order to achieve an efficient allocation of funds.

Originality/value

The author shows that the firm-specific fixed effects in leverage regressions are not related to the usual determinants (e.g. profitability, market-to-book ratio), but to the primitive characteristics of the firm (e.g. elasticity of capital in the production function, the volatility of profits, the capital depreciation rate, the income tax rate, etc.)

Details

International Journal of Managerial Finance, vol. 11 no. 2
Type: Research Article
ISSN: 1743-9132

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Article
Publication date: 18 August 2023

Ridha Esghaier

This paper aims to test the empirical validity of the dynamic trade-off theory in its symmetric and asymmetric versions in explaining the capital structure of a panel of publicly…

471

Abstract

Purpose

This paper aims to test the empirical validity of the dynamic trade-off theory in its symmetric and asymmetric versions in explaining the capital structure of a panel of publicly listed US industrial firms over the period from 2013 to 2019. It analyzes the existence of an adjustment of leverage toward its target level and whether the speed of this adjustment is influenced by the debt measure, the model specification or/and the fact that the actual debt ratio is higher or lower than its long-term target level.

Design/methodology/approach

This paper uses a quantitative research methodology using panel data analysis under the partial adjustment model and the error correction model using the generalized moment method in first differences and in systems to explore the dynamic nature of firms’ capital structure behavior.

Findings

The results show that the effects of the conventional determinants of leverage are globally consistent with the trade-off theory predictions. The dynamic versions confirm that firms exhibit leverage-targeting behavior. Although this speed of adjustment (SOA) depends on the debt and model specifications, it is around 60% on average. The estimated SOA is higher for the market leverage measure compared to the book leverage. The asymmetric adjustment model reveals that firms are more sensitive to reducing leverage than increasing it when they are away from their target; overleveraged firms exhibit approximately 5% faster adjustment than underleveraged firms when book leverage is used.

Originality/value

The originality of this research paper lies in its development and test of an asymmetric model to allow the leverage adjustment speed to vary depending on whether the firm’s debt ratio is above or below its target level and the methodological approach as well as the different model specifications used and the insights generated through the application of rigorous econometric techniques.

Details

Studies in Economics and Finance, vol. 41 no. 4
Type: Research Article
ISSN: 1086-7376

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