The Determinants of Capital Structure in Emerging Capital Markets: Evidence from Serbia

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1. Introduction Study of the capital structure and the effects of financial leverage in the so-called transition economies is still a matter of current interest. This problem is differently manifested in every country, depending on numerous factors (Thalassinos and Kiriazidis 2003; Thalassinos, Kiriazidis and Thalassinos 2006). The most important ones are the completeness of privatization process, the level of progress in capital market development, availability of various financing sources, the level of investor protection, legal stability and management quality. Each of these factors could affect certain firms with different intensity, depending on the country. The differences between developed and developing markets are significant (Thalassinos 2007; 2008). In contrast to developed markets, undeveloped markets are characterized by insufficient information transparency, poor functioning of primary market, low liquidity of secondary market and slow adjustment of prices to new information signals (Thalassinos et al., 2010). Under such circumstances, company management is often faced with inflexible capital structure, dominantly composed of capital and credit sources. Therefore, it is logical that usual capital structure determinants are differently manifested. The importance of studying the peculiarities of capital structure choices of companies operating in emerging and transition economies was highlighted for the first time by Cornelli, Portes and Schaffer (1998). In the last decade, a significant number of studies emerged aiming to explore the unique features of capital structure choices in Central and Eastern European (CEE) countries. However, to the best of the authors' knowledge, no empirical research concerning the impact of various firm-specific factors on capital structure choices of listed firms has been conducted in case of Serbia. Although Serbia, as one of European transition economies, shares many geographic and historical characteristics with other transitional European countries, the Serbian economy shows unique characteristics in terms of regulatory and infrastructure environment, development of financial market as well as the economic structure. The aim of this paper is to fill this gap in the literature by exploring the case of capital structure determinants in the Republic of Serbia. This study explores the factors determining capital structure choice of Serbian firms listed on the regulated market fragment of the Belgrade Stock Exchange in the period 2008-2011. More specifically, we try to answer whether firm-specific determinants that have been recognized in Central and Eastern European corporate settings are similarly leverage-correlated among Serbian companies. The contribution of the paper is two-fold and is reflected in extending the existing empirical literature to financial policy determinants in emerging and transitional economies and broadening the possibilities for cross-country comparison in the field of capital structure determinants. The structure of the paper is as follows. In Section 1 we give an overview of relevant theoretical and empirical evidence concerning capital structure determinants in European transitional economies. The data collection and research method are presented in Section 2. In Section 3 we discuss the empirical results of our study. Final Section provides conclusions, emphasize some limitations of the study and propose the objectives of future research. 2. Capital Structure Research in European Transition Economies Capital structure determines how a firm finances its operations and growth by using different sources of funds--debt and equity. Since the appearance of the seminal paper by Modigliani and Miller (1958), economic literature has recognized two important competitive theoretical models that aim to explain the capital structure decisions: the pecking order hypothesis and the static trade-off model. The first one finds its corner-stone in asymmetric information, while the second one is based on the existence of tax benefits associated with debt use, bankruptcy cost and agency cost. …