Abstract
The objective of this study is to improve the model of optimal capital structure. This research aims to investigate the role of the industrial factors on the optimal capital structure proxy by including industry factors in the existing model and using the company characteristic variables as control variables. This research applies seven industrial variables: Number of Firms in Industry (NFI), Industry Competitive Dynamic (ICD), Firm Response to Industry Competitive (FRI), Numbers of Employees in an Industry (NEI), Employees' Share of Firm Quasi Rents (ESQ), Category of Product Diversification (CPD), and Diversification level of Relatedness (DRD). This research determines whether the proposed proxy in this research is better than the two other proxies. The testing procedure is designed to replicate the procedure of Farhat (2003). The data used in the study consist of 83 companies from 13 industries listed on IDX for the period of 2001-2014. The results showed that the industry variables can improve the existing optimal capital structure proxies. This finding contributes to the industry in that it can improve the dynamic trade-off model of capital structure.
Highlights
The objective of this study is to improve the model of optimal capital structure
Various proxies found in the financial literature are used as measurements of the optimal capital structure by using the firm’s characteristic variables as the variable explanatory, such as firm size, tangibility asset, market to book ratio, R & D intensity, R & D indicator, profitability, and depreciation
Most of the dynamic capital structure studies use the optimal capital structure proxy by using cross-sectional methods of which firm characteristic variables are used as independent variables (Hovakimian et al, 2001; Fama & French, 2002; Korajczyk & Levy, 2003; Flannery & Rangan, 2006; Lemmon et al 2008; Cook & Tang, 2010; Hovakimian & Li, 2011)
Summary
The main data are from the financial report obtained from IDX (Indonesia Stocks Exchange) publications. The secondary data are the industrial data presented by BPS (Indonesia Statistical Central Bureau). The initial samples of manufacturing industries in IDX include 211 firms. The motivation to develop this model is Farhat’s finding (2003) that the best proxy optimal structure is the Industry Median Leverage Ratio (IMLR), which has correlation with the firm’s value at 65% of the Cross-Sectional Leverage Ratio (CSRL1) by using the firm’s independent variables as the proxy optimal capital structure as the second best, which has a correlation circa 50% of the firm’s value. It is appropriate to expect another independent variable which is explained by the proxy CSRL-1 and caught by IMLR.
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