Abstract
This study investigates how short-term debt and debt capacity help firms to make efficient financing decisions and reduce underinvestment problem. The sample includes Chinese nonfinancial firms listed on the Shanghai and Shenzhen Stock Exchanges over the period 2007 to 2017. The findings indicate that short-term debt is positively related to leverage. The results also indicate that growth positively influences leverage. The results further show that short-term debt enhances the positive impact of growth on leverage. These findings reveal that short-term debt makes firms financially flexible, and allows them to obtain more cost-effective debt by repricing and renegotiation of debt contracts in the presence of valuable growth opportunities. Furthermore, the results illustrate that debt capacity is positively associated with leverage, suggesting that debt capacity helps firms to have an easy access to the credit market and reduce liquidity risk. Overall, the findings remain consistent across different types of firms (state-owned [S.O.E.] and non-state-owned enterprises [N.S.O.E.]) and by considering alternative proxy of growth.
Highlights
The agency conflicts of creditors–shareholders have attained huge consideration in the literature
Short-term debt and leverage The results reveal that short-term debt positively associated with leverage
This study investigates how short-term debt and debt capacity help firms to alleviate underinvestment problems
Summary
The agency conflicts of creditors–shareholders have attained huge consideration in the literature. The conflict of interest between creditors and shareholders leads managers to act in the interest of shareholders, and make different choices of debt to equity ratios and maturities of debt to mitigate the risk associated with debt. Firms with risky debt may face a debt overhang problem in the presence of shareholders–creditors conflicts. Risky debt may not allow highly levered firms to invest in new investment projects, even if projects have positive N.P.V.s, which results in underinvestment problem. The relation of financing–investment decisions is considerably discussed in the literature. Modigliani and Miller (1958) argue that in perfect capital markets, a firm’s The relation of financing–investment decisions is considerably discussed in the literature. Modigliani and Miller (1958) argue that in perfect capital markets, a firm’s
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