Showing papers on "Capital structure published in 2013"
TL;DR: The authors examine the pervasive view that "equity is expensive," which leads to claims that high capital requirements are costly for society and would affect credit markets adversely and find that arguments made to support this view are fallacious, irrelevant to the policy debate, or very weak.
Abstract: We examine the pervasive view that "equity is expensive," which leads to claims that high capital requirements are costly for society and would affect credit markets adversely We find that arguments made to support this view are fallacious, irrelevant to the policy debate by confusing private and social costs, or very weak For example, the return on equity contains a risk premium that must go down if banks have more equity It is thus incorrect to assume that the required return on equity remains fixed as capital requirements increase It is also incorrect to translate higher taxes paid by banks to a social cost Policies that subsidize debt and indirectly penalize equity through taxes and implicit guarantees are distortive And while debt’s informational insensitivity may provide valuable liquidity, increased capital (and reduced leverage) can enhance this benefit Finally, suggestions that high leverage serves a necessary disciplining role are based on inadequate theory lacking empirical support We conclude that bank equity is not socially expensive, and that high leverage at the levels allowed, for example, by the Basel III agreement is not necessary for banks to perform all their socially valuable functions and likely makes banking inefficient Better capitalized banks suffer fewer distortions in lending decisions and would perform better The fact that banks choose high leverage does not imply that this is socially optimal Except for government subsidies and viewed from an ex ante perspective, high leverage may not even be privately optimal for banks Setting equity requirements significantly higher than the levels currently proposed would entail large social benefits and minimal, if any, social costs Approaches based on equity dominate alternatives, including contingent capital To achieve better capitalization quickly and efficiently and prevent disruption to lending, regulators must actively control equity payouts and issuance If remaining challenges are addressed, capital regulation can be a powerful tool for enhancing the role of banks in the economy
671 citations
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TL;DR: In this article, the authors report estimates of the long-run costs and benefits of having banks fund more of their assets with loss-absorbing capital, by which they mean equity rather than debt.
Abstract: This article reports estimates of the long-run costs and benefits of having banks fund more of their assets with loss-absorbing capital, or equity. We model how shifts in funding affect required rates of return and how costs are influenced by the tax system. We draw a clear distinction between costs to individual institutions (private costs) and overall economic (or social) costs. We find that the amount of equity capital that is likely to be desirable for banks to use is very much larger than banks have used in recent years and also higher than targets agreed under the Basel III framework. This article reports estimates of the long-run costs and benefits of having banks fund more of their assets with loss-absorbing capital ‐ by which we mean equity ‐ rather than debt. The benefits come because a larger buffer of truly loss-absorbing capital reduces the chance of banking crises which, as both past history and recent events show, generate substantial economic costs. The offset to any such benefits comes in the form of potentially higher costs of intermediation of saving through the banking system; the cost of funding bank lending might rise as equity replaces debt and such costs can be expected to be reflected in a higher interest rate charged to those who borrow from banks. That in turn would tend to reduce the level of investment with potentially long-lasting effects on the level of economic activity. Calibrating the size of these costs and benefits is important but far from
478 citations
TL;DR: In this paper, the role of CEOs with a career background in finance is studied and it is shown that firms that appoint financial expert CEOs hold less cash and more debt, and engage in more share repurchases.
Abstract: This research studies the role of CEOs with a career background in finance. Firms that appoint financial expert CEOs hold less cash and more debt, and engage in more share repurchases. Financial expert CEOs are also more financially sophisticated. They are less likely to use one companywide discount rate instead of a project-specific one. They also manage financial policies more actively, communicate better with financial markets and their firm investments are less sensitive to firm cash flows. We use exogenous changes to business conditions and find financial expert CEOs are able to raise external funds even when credit conditions are tight. They were also more responsive to the dividend and capital gains tax cuts in 2003 and paid out more to shareholders. Newly appointed financial expert CEOs also seem more likely to replace incumbent CFOs. We do not find evidence that personal networks are driving these results. Finally, we analyze CEO-firm matching based on financial experience and provide evidence that is mostly consistent with a conclusion that employment histories of CEOs greatly matter for corporate policies.
317 citations
TL;DR: In this paper, a dynamic model of investment, capital structure, leasing, and risk management based on firms' need to collateralize promises to pay with tangible assets is developed. But the model is not suitable for large firms.
Abstract: We develop a dynamic model of investment, capital structure, leasing, and risk management based on firms' need to collateralize promises to pay with tangible assets. Both financing and risk management involve promises to pay subject to collateral constraints. Leasing is strongly collateralized costly financing and permits greater leverage. More constrained firms hedge less and lease more, both cross-sectionally and dynamically. Mature firms suffering adverse cash flow shocks may cut risk management and sell and lease back assets. Persistence of productivity reduces the benefits to hedging low cash flows and can lead firms not to hedge at all.
311 citations
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TL;DR: In this article, the authors exploit changes in state unemployment insurance laws as a source of variation in the costs borne by workers during layoff spells and find that higher unemployment benefits lead to increased corporate leverage, particularly for labor-intensive and financially constrained firms.
Abstract: This paper presents evidence that firms choose conservative financial policies partly to mitigate workers' exposure to unemployment risk. We exploit changes in state unemployment insurance laws as a source of variation in the costs borne by workers during layoff spells. We find that higher unemployment benefits lead to increased corporate leverage, particularly for labor-intensive and financially constrained firms. We estimate the ex ante, indirect costs of financial distress due to unemployment risk to be about 60 basis points of firm value for a typical BBB-rated firm. The findings suggest that labor market frictions have a significant impact on corporate financing decisions.
267 citations
TL;DR: In this article, the authors examined the impact of labor unemployment risk on corporate financing decisions and found that increased legally mandated unemployment benefits lead to increases in corporate leverage, especially for firms with greater layoff separation rates, labor intensity, and financing constraints.
266 citations
TL;DR: In this article, a dynamic model of investment, capital structure, leasing, and risk management based on firms' need to collateralize promises to pay with tangible assets is developed. But the model is not suitable for large firms.
230 citations
TL;DR: This paper found that buyout leverage is unrelated to the cross-sectional factors, suggested by traditional capital structure theories, that drive public firm leverage, instead, variation in economywide credit conditions is the main determinant of leverage in buyouts.
Abstract: Private equity funds pay particular attention to capital structure when executing leveraged buyouts, creating an interesting setting for examining capital structure theories. Using a large, international sample of buyouts from 1980 to 2008, we find that buyout leverage is unrelated to the cross-sectional factors, suggested by traditional capital structure theories, that drive public firm leverage. Instead, variation in economy-wide credit conditions is the main determinant of leverage in buyouts. Higher deal leverage is associated with higher transaction prices and lower buyout fund returns, suggesting that acquirers overpay when access to credit is easier.
223 citations
TL;DR: In this article, the authors demonstrate that personal political preferences of corporate managers influence corporate policies, and that managers who are likely to have conservative personal ideologies adopt and maintain more conservative corporate policies.
Abstract: We demonstrate that personal political preferences of corporate managers influence corporate policies. Specifically, Republican managers who are likely to have conservative personal ideologies adopt and maintain more conservative corporate policies. Those firms have lower levels of corporate debt, lower capital and R&D expenditures, less risky investments, but higher profitability. Using the 9/11 terrorist attacks and September 2008 Lehman Brothers bankruptcy as natural experiments, we demonstrate that investment policies of Republican managers became more conservative following these exogenous uncertainty increasing events. Further, around CEO turnovers, including CEO death, firm leverage policy becomes more conservative when managerial conservatism increases.
213 citations
TL;DR: In this article, the authors investigate the effect of capital structure and dividend policy on cash holdings in developing countries and compare their results with a control sample from the US and the UK.
192 citations
TL;DR: The authors reviewed the empirical literature on the corporate governance of banks and highlighted the main differences between banks and non-financial firms and focus on three characteristics which make banks special: (i) regulation, (ii) the capital structure of banks, and (iii) the complexity and opacity of their business and structure.
Abstract: This paper reviews the empirical literature on the corporate governance of banks. We start by highlighting the main differences between banks and non-financial firms and focus on three characteristics which make banks special: (i) regulation, (ii) the capital structure of banks, and (iii) the complexity and opacity of their business and structure. Next, we discuss the characteristics of corporate governance in banks and how they differ from the governance of non-financial firms. We then review the evidence on three governance mechanisms: (i) boards, (ii) ownership structures, and (iii) executive compensation. Our review suggests that some of the empirical regularities found in the literature on corporate governance of nonfinancial institutions, such as the positive (negative) association between board independence (size) and performance, do not hold for banks. Also, existing work provides less than conclusive results regarding the relation between different governance mechanisms and various measures for banks’ performance. We discuss potential explanations for these mixed results.
TL;DR: In this article, the authors investigated the relationship between capital structure and firm performance, paying particular attention to the degree of industry competition, and found that financial leverage has a positive and significant effect on firm performance.
TL;DR: The authors examined the international determinants of capital structure using a large sample of firms drawn from 37 counties and found that the reliable determinants for leverage are firm size, tangibility, industry leverage, profits, and inflation.
Abstract: This article examines the international determinants of capital structure using a large sample of firms drawn from 37 counties. The reliable determinants for leverage are firm size, tangibility, industry leverage, profits, and inflation. The quality of the countries’ institutions affects leverage and the speed of adjustment toward target leverage in significant ways. High-quality institutions lead to faster leverage adjustments, while laws and traditions that safeguard debt holders relative to stockholders (e.g., more effective bankruptcy procedures and stronger creditor protection) lead to higher leverage.
TL;DR: In this paper, the authors carried out a panel data analysis of 3175 SMEs from seven CEE countries during the period 2001-2005, modeling the leverage ratio as a function of firm specific characteristics hypothesized by capital structure theory.
TL;DR: This article showed that rating agencies have become more conservative in assigning credit ratings to corporations over the period 1985 to 2009, which has also affected capital structure, cash holdings, growth, and debt spreads.
Abstract: We show that rating agencies have become more conservative in assigning credit ratings to corporations over the period 1985 to 2009. Holding firm characteristics constant, average ratings have dropped by three notches (e.g., from A to BBB ) over time. Consistent with the view that this change has not been fully warranted, we find that defaults for both investment grade and non-investment grade firms have declined over time. The increased stringency has also affected capital structure, cash holdings, growth, and debt spreads. Firms that suffer more from this conservatism issue less debt, have lower leverage, and hold more cash; they are also less likely to obtain a debt rating and they experience lower sales growth. However, their debt spreads are lower compared to the spreads of firms with the same rating that have not suffered from this conservatism, which implies that the market partly undoes the impact of conservatism on debt prices. This evidence suggests that firms and capital markets do not perceive the increase in conservatism to be fully warranted.
TL;DR: In this article, the authors explored the significance of firm-specific, institutional, and macroeconomic factors in explaining variation in leverage using a sample of firms from nine Eastern European countries.
TL;DR: In this paper, the authors show that shareholders pervasively resist leverage reductions no matter how much such reductions may enhance firm value, and instead choose to increase leverage even if the new debt is junior and would reduce firm value.
Abstract: Firms’ inability to commit to future funding choices has profound consequences for capital structure dynamics. With debt in place, shareholders pervasively resist leverage reductions no matter how much such reductions may enhance firm value. Shareholders would instead choose to increase leverage even if the new debt is junior and would reduce firm value. These asymmetric forces in leverage adjustments, which we call the leverage ratchet effect, cause equilibrium leverage outcomes to be history-dependent. If forced to reduce leverage, shareholders are biased toward selling assets relative to potentially more efficient alternatives such as pure recapitalizations.
TL;DR: This article examined the capital-structure decisions of privately held US firms using data from four nationally representative surveys conducted from 1987 to 2003 and found that book-value firm leverage is negatively related to firm age and minority ownership; and is positively related to industry median leverage, the corporate legal form of organization, and the number of banking relationships.
Abstract: This study examines the capital-structure decisions of privately held US firms using data from four nationally representative surveys conducted from 1987 to 2003. Book-value firm leverage, as measured by either the ratio of total loans to total assets or the ratio of total liabilities to total assets, is negatively related to firm age and minority ownership; and is positively related to industry median leverage, the corporate legal form of organization, and to the number of banking relationships. In general, these results provide mixed support for both the Pecking-Order and Trade-Off theories of capital structure. What do we know about the capital structure of privately held US firms? The answer is “not much,” as almost all existing empirical studies of the capital structure of US firms have relied upon Compustat data for large corporations with publicly traded securities. 1 Although such large, publicly traded corporations hold the vast majority of business assets, they account for only a small fraction of the number of business entities. In the United States, for example, there are fewer than 10,000 firms that issue publicly traded securities, yet according to the US Internal Revenue Service, there were approximately 30 million small businesses as of
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TL;DR: This paper found that strong creditor protection is associated with low long-term leverage across countries, and that strong protection discourages firms from making longterm cash flow commitments to service debt because managers and shareholders avoid the risk of losing control in the case of financial distress.
Abstract: For a large sample of 48 countries, we find robust evidence that strong creditor rights are associated with low long-term leverage across countries. We further find that strong creditor protection lowers long-term debt issuance, the extent to which investments are financed with long-term debt, and target leverage ratios. Finally, we find that firm and country characteristics influence the link between creditor protection and long-term leverage. Our results support the demand-side view that strong creditor protection discourages firms from making long-term cash flow commitments to service debt because managers and shareholders avoid the risk of losing control in the case of financial distress.
TL;DR: In this paper, the authors examined the effect of family management, ownership, and control on capital structure for 523 Colombian firms between 1996 and 2006, finding that debt levels tend to be lower for younger firms when the founder or one of his heirs acts as manager, but trends higher as the firm ages.
TL;DR: In this article, the authors analyzed the motives moving founders and their families to influence the capital structure decision in German banks and found that controlling considerations of major shareholders are important determinants of capital structure.
Abstract: In this paper, I analyze the motives moving founders and their families to influence the capital structure decision. For this, I complement detailed corporate governance information for Germany with data from other countries. The results for the German bank-based financial system contradict prior findings for other institutional environments. According to these results, family firms in Germany rely less heavily on debt than non-family firms. Less surprisingly, the opposite holds true for the international dataset. Different empirical tests indicate that this puzzling result can be explained by control considerations. Founders and their families use the capital structure to optimize their control over the firm. However, whether family firms rely more or less on debt depends on the level of creditor monitoring in an institutional environment. These findings emphasize that control considerations of major shareholders are important—although often overlooked—determinants of the capital structure.
TL;DR: In this article, the authors test the predictions of Titman (1984) and Berk, Stanton, and Zechner (2010) by examining the effect of leverage on labor costs.
TL;DR: In this paper, the explanatory power of firm-specific, country of incorporation institutional, and macroeconomic factors is evaluated using data from ten Western European countries to compare the sources of leverage across small and large, as well as across listed and unlisted firms.
Abstract: Firm data from ten Western European countries is used in this paper to contrast the sources of leverage across small and large, as well as across listed and unlisted firms. Specifically, the explanatory power of firm-specific, country of incorporation institutional, and macroeconomic factors is evaluated. Using data that is more comprehensive in coverage than that used in the existing research the stylized facts of the capital structure literature for large and listed firms is confirmed, but contrasting evidence is obtained for smaller companies. First, the country of incorporation carries much more information for small firms, supporting the idea that small firms are more financially constrained and face non-firm-specific hurdles in their capital structure choice. Second, using two different leverage measures it is shown that the relationship of firm size and tangibility to leverage is robust to the measure used for listed, but not for unlisted firms.
TL;DR: The authors characterize the relation between asset structure and capital structure by exploiting variation in the salability of corporate assets and find that asset redeployability is a main driver of leverage when credit frictions are high.
Abstract: We characterize the relation between asset structure and capital structure by exploiting variation in the salability of corporate assets. To establish this link, we distinguish across different assets in firms’ balance sheets (machinery, land, and buildings) and use an instrumental approach that incorporates market conditions for those assets. We also use a natural experiment driving differential increases in the supply of real estate assets across the United States: The Defense Base Closure and Realignment Act of 1990. Consistent with a supply-side view of capital structure, we find that asset redeployability is a main driver of leverage when credit frictions are high.
TL;DR: The authors embeds a trade-off theory of capital structure into a real business cycle model with a small, exogenously timevarying risk of economic disaster, and the model replicates the level, volatility and cyclicality of credit spreads, and variation in the corporate bond risk premium amplifies macroeconomic fluctuations in investment, employment and GDP.
Abstract: Credit spreads are large, volatile, and countercyclical, and recent empirical work suggests that risk premia, not expected credit losses, are responsible for these features. Building on the idea that corporate debt, while fairly safe in ordinary recessions, is exposed to economic depressions, this paper embeds a trade-off theory of capital structure into a real business cycle model with a small, exogenously timevarying risk of economic disaster. The model replicates the level, volatility and cyclicality of credit spreads, and variation in the corporate bond risk premium amplifies macroeconomic fluctuations in investment, employment, and GDP. (JEL E13, E22, E23, E24, E32, E44, G32)
TL;DR: This paper provided a quantitative review of the empirical literature on the tax impact on corporate debt financing and found that the tax rate proxy determines the outcome of primary analyses, and that this impact is substantial.
Abstract: This paper provides a quantitative review of the empirical literature on the tax impact on corporate debt financing. Synthesizing the evidence from 46 previous studies, we find that this impact is substantial. In particular, the tax rate proxy determines the outcome of primary analyses. Measures like the simulated marginal tax rate (Graham (1996a)) avoid a downward bias in estimates for the debt response to tax. Moreover, debt characteristics, econometric specifications, and the set of control-variables affect tax effects. Accounting for misspecification biases by means of meta-regressions, we predict a marginal tax effect on the debt ratio of 0.3.
TL;DR: In this article, the authors analyzed the question if and how founding families influence the capital structure decision of their firms, and found that the family impact is mostly driven via management involvement and that the presence of a founder CEO has a strong negative effect on the leverage ratio.
Abstract: This paper analyzes the question if and how founding families influence the capital structure decision of their firms. By using a unique, partially hand-collected panel dataset of 660 listed German companies (5,135 firm years) over the period 1995–2006, we come up with the following results: German family firms have significantly lower leverage ratios than non-family firms. With respect to the question how families influence the capital structure of their firms, we can show that the family impact is mostly driven via management involvement. In this context, we also detect that the presence of a founder CEO has a strong negative effect on the leverage ratio. Our results prove to be stable against a battery of robustness tests, including the influence of other types of blockholders and the firms’ life cycle. Moreover, we use a propensity-score based matching estimator to alleviate concerns of reverse causality. Overall, our study suggests a strong, negative and causal relationship between family firm characteristics (especially family management) and the level of leverage.
TL;DR: In this paper, the authors investigate the determinants of capital structure decisions using a sample of 115 exchange-listed shipping companies and test whether listed shipping companies follow a target capital structure, and analyze their adjustment dynamics after deviations from this target leverage ratio.
Abstract: Debt capital has traditionally been the most important source of external finance in the shipping industry. The access that shipping companies nowadays have to the capital markets provides them with a broader range of financing instruments. As such, this study investigates the determinants of capital structure decisions using a sample of 115 exchange-listed shipping companies. We test whether listed shipping companies follow a target capital structure, and we analyze their adjustment dynamics after deviations from this target leverage ratio. When compared with industrial firms from the G7 countries, shipping companies exhibit higher leverage ratios and higher financial risk. Standard capital structure variables exert a significant impact on the cross-sectional variation of leverage ratios in the shipping industry. Asset tangibility is positively related to corporate leverage, and its economic impact is more pronounced than in other industries. Profitability, asset risk, and operating leverage are all inversely related to leverage. There is only weak evidence for market-timing behavior of shipping companies. Because demand and supply in the maritime industry are closely related to the macroeconomic environment, leverage behaves counter-cyclically. Using different dynamic panel estimators, we further document that the speed of adjustment after deviations from the target leverage ratio is lower during economic recessions. On average, however, the capital structure adjustment speed in the maritime industry is higher compared with the G7 benchmark sample. These findings indicate that there are substantial costs of deviation from the target leverage ratio due to high expected costs of financial distress. Our results have implications for shipping companies’ risk management activities. �
TL;DR: This paper proposed a new unbiased estimator for adjustment speed in the presence of fractional dependent variables that also controls for unobserved heterogeneity and unbalanced panel data, which is suitable for corporate finance applications beyond capital structure research.
Abstract: Researchers in empirical corporate finance often use bounded ratios (e.g. debt ratios) as dependent variables in their regressions. Using the example of estimating the speed of adjustment toward target leverage, we show by Monte Carlo and resampling experiments that commonly applied estimators yield severely biased estimates, as they ignore that debt ratios are fractional, i.e. bounded between 0 and 1. We propose a new unbiased estimator for adjustment speed in the presence of fractional dependent variables that also controls for unobserved heterogeneity and unbalanced panel data. This new estimator is suitable for corporate finance applications beyond capital structure research.
TL;DR: In this article, the authors find that most zero-leverage firms are constrained by their debt capacity; they are smaller, riskier, and less profitable, and they are the most active equity issuers.
Abstract: Zero-leverage is an international phenomenon which has increased over time. The increasing prevalence of zero-leverage firms is related to IPO waves and the accompanying changes in industry composition. In addition, we attribute the higher propensity to maintain a zero-leverage policy throughout all size and age groups to increasing asset volatility and decreasing corporate tax rates during our sample period. Countries with a common law system, high creditor protection, and a dividend imputation or dividend relief tax system exhibit the highest percentage of zero-leverage firms. Analyzing supply-side capital market frictions, we find that only a small number of profitable firms with high payout ratios deliberately maintain zero-leverage. In contrast, most zero-leverage firms are con-strained by their debt capacity; they are smaller, riskier, and less profitable, and they are the most active equity issuers. With respect to the demand-side of financing choices, we show that firms which pursue a zero-leverage policy only for a short period of time seek financial flexibility. After abandoning zero-leverage, these mostly un-constrained firms switch to higher leverage ratios, make higher investments, and reduce their cash holdings by a larger amount compared to constrained zero-leverage firms, which remain debt-free for longer periods of time.