Abstract
This paper empirically examines the significance of credit ratings for optimal capital structure decisions. Non-financial Asian listed companies, evaluated by Standard and Poor’s, are selected from 2000 to 2016. Panel data analysis with pooled ordinary least square (OLS), fixed effect (FE), and generalized method of moment (GMM) estimation techniques are employed to test the effect of each credit rating scale on capital structure choices. For the problem of heteroskedasticity in OLS, the heteroskedastic white consistent variance is used for the best fit of the model. Findings of all estimation techniques show that the relationship between credit rating scales and leverage ratio is a non-linear inverted U shape. High- and low-rated companies have a low level of leverage, whereas mid-rated companies have a high level of leverage. It is evident that costs and benefits of each rating scale have a substantial effect on the behavior of a company’s choices for optimal capital structure. The study suggests that policymakers, investors, and financial officers should consider credit rating as an important measure of financing decisions.
Highlights
The inspiration for this investigation started with the perception that an organization’s financial managers, regulatory authorities, investors, and speculators are concerned by credit ratings when making their investment and financing choices
The focus is on the leverage ratio and credit ratings, as they are the main variables of interest of the study
Growth opportunities (GROPE) and the domestic stock market (DSM) show huge variation, which can be due to companies from different developed and developing markets, such as Japan, China, India, Malaysia, etc
Summary
The inspiration for this investigation started with the perception that an organization’s financial managers, regulatory authorities, investors, and speculators are concerned by credit ratings when making their investment and financing choices. An ideal capital structure is the best proportion of debt and equity of a firm that augments its value. The optimal capital structure of an organization is one that reduces the relative cost of capital by establishing a harmony between the perfect debt-to-equity ratio. A couple of years ago organizations in Europe, Asia and around the globe altogether reinforced their capital structure by deleveraging and reducing liquidity risk due to the financial crisis (Frank and Goyal 2003). Firms are concentrating on refinancing risk by increasing cash flows to maintain a strategic distance from future emergencies and expanding securities exchange valuations. All these changes have increased the need for the credit rating to measure financial constraints
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