Threshold capital structure and predictors of choice between distribution strategies

Mpinda F Mvita,Hendrik P Wolmarans,Leon M Brummer

doi:10.4102/jef.v14i1.679

Abstract

Orientation: The determination of a threshold capital structure and company specific attributes as predictors of choice between distribution strategies is crucial in the creation of shareholders’ wealth.Research aim: To investigate whether the change in regimes given a threshold capital structure maximises distribution strategies over the period 1990–2017 and 1999–2017. In addition, the study examined how the capital ratio and company specific attributes were used in the process of choosing between distribution strategies.Motivation for the study: The need to determine the impact of the capital ratio within different regions on distribution strategies motivated this study. In addition, the majority of studies on predictors of choice between distribution strategies have ignored the dual and the no distribution policy alternatives relative to share repurchases.Research approach/design and method: all the data used in this research were sourced from the Iress data bases. The research employed an advanced panel threshold regression estimation and a multinomial logistic regression (pooled and fixed effects using the generalised structural equation model).Main findings: Firstly, over the period 1990–2017 the empirical results revealed the existence of a single threshold effect between the debt-to-equity ratio and the dividend payments, and a double threshold effect between the total debt based on the book value and the dividend payment. Secondly, the choice between distribution strategies was driven by company specific attributes.Practical/managerial implication: These findings provide useful insights to South African managers for formulating and maximizing pay-out decisions.Contribution/value-add: The study contributes to the scant body of knowledge on the effect of threshold capital ratio and company specific attributes on distribution strategies.

Highlights

Financing decisions determine pay-out decisions and according to Noronha, Shome and Morgan (1996), optimal debt ratio has corresponding to it an optimal pay-out rate, at which point the sum of transactions and equity agency costs are minimised for that debt ratio
The results indicated that when the debt-to-equity ratio of the JSE-listed companies in the sample was greater than 1.665499, the relationship between financing decisions and dividend payment decisions became insignificant
The results indicated that there was an existing significant threshold effect of the capital structure for the dividend payments even after the introduction of share repurchases

Summary

Introduction

Financing decisions determine pay-out decisions and according to Noronha, Shome and Morgan (1996), optimal debt ratio has corresponding to it an optimal pay-out rate, at which point the sum of transactions and equity agency costs are minimised for that debt ratio. If the company has too little debt, it loses the leverage benefits, because it does not maximise its tax shields. To move its leverage to the optimal level, the company should either issue more debt or increase its capital distribution to shareholders by either dividend payments or share repurchases. If a company distributes more cash, it will have less internal earnings, increasing the company’s dependence on debt or other external financing. This implies that the decision to raise funds is directly associated with the dividend payments (Yusof & Ismail 2016)

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