Dynamic Trade-off Research Articles

Dynamics of speed of leverage adjustment and financial distress in the Indian steel industry

Business managers strive to attain the optimal capital structure (OCS), which allows them to raise capital at a minimal cost, thereby maximising their returns. Balancing risk and reward is crucial in determining the target capital structure. Therefore, understanding the optimal leverage ratio and the Speed at which leverage adjustments are made is vital to managers. This study examines the optimal leverage ratio, the speed of adjustment, and the factors contributing to achieving the target capital structure for select 208 steel firms, particularly in an emerging economy like the Indian steel industry. A partial adjustment model is utilised, employing the Generalised Method of Moments (GMM) technique. Additionally, the Altman Z-score is employed to evaluate the financial distress of these steel firms. Very few studies have specifically focused on determining the Speed of adjustment (SOA) using GMM of emerging economies like the Indian steel industry. The findings indicate that steel firms take approximately 2.13 years to reach their target leverage, supporting the existence of the dynamic trade-off theory. The results also highlight the relationship of selected variables (Profitability, Growth, Size, Tangibility, NDTS, Liquidity, and Financial Distress) with the Speed of leverage adjustment and the weak financial position of these businesses.

Customer–supplier relationships and non-linear financial policy response

We investigate whether changes in the capital structure of major customers play an important role in determining the firm’s financial policy. Following (Leary and Roberts, 2014) and using average customer idiosyncratic equity return shocks, we find that a firm’s leverage ratio is negatively and nonlinearly affected by the leverage ratio of its major customers. This “customer effect” occurs only when the idiosyncratic equity shock to the customer firms is negative. Consistent with the prediction of the modified pecking order theory that firms are more concerned about excessively high leverage ratios than excessively low leverage ratios, supplier firms tend to significantly reduce their long-term debt in response to increases in the leverage ratios of their major customers but are insensitive to the inverse change. Finally, consistent with the stakeholder theory and the dynamic trade-off theory, we find that this capital structure correlation is more pronounced for firms producing specialized or unique products, firms with lower profitability, firms with weaker operational capabilities, firms that take more risks, firms whose customers operate in more competitive industries, and firms whose customers are more financially vulnerable. Our results contribute to identifying the dynamics and determinants of corporate capital structures.

The dynamic trade-off theory of capital structure: evidence from a panel of US industrial companies

PurposeThis paper aims to test the empirical validity of the dynamic trade-off theory in its symmetric and asymmetric versions in explaining the capital structure of a panel of publicly listed US industrial firms over the period from 2013 to 2019. It analyzes the existence of an adjustment of leverage toward its target level and whether the speed of this adjustment is influenced by the debt measure, the model specification or/and the fact that the actual debt ratio is higher or lower than its long-term target level.Design/methodology/approachThis paper uses a quantitative research methodology using panel data analysis under the partial adjustment model and the error correction model using the generalized moment method in first differences and in systems to explore the dynamic nature of firms’ capital structure behavior.FindingsThe results show that the effects of the conventional determinants of leverage are globally consistent with the trade-off theory predictions. The dynamic versions confirm that firms exhibit leverage-targeting behavior. Although this speed of adjustment (SOA) depends on the debt and model specifications, it is around 60% on average. The estimated SOA is higher for the market leverage measure compared to the book leverage. The asymmetric adjustment model reveals that firms are more sensitive to reducing leverage than increasing it when they are away from their target; overleveraged firms exhibit approximately 5% faster adjustment than underleveraged firms when book leverage is used.Originality/valueThe originality of this research paper lies in its development and test of an asymmetric model to allow the leverage adjustment speed to vary depending on whether the firm’s debt ratio is above or below its target level and the methodological approach as well as the different model specifications used and the insights generated through the application of rigorous econometric techniques.

Don’t hide the instruction manual: A dynamic trade-off between using internal and external templates during visual search

Don’t hide the instruction manual: A dynamic trade-off between using internal and external templates during visual search

Don't hide the instruction manual: A dynamic trade-off between using internal and external templates during visual search.

Visual search is typically studied by requiring participants to memorize a template initially, for which they subsequently search in a crowded display. Search in daily life, however, often involves templates that remain accessible externally, and may therefore be (re)attended for just-in-time encoding or to refresh internal template representations. Here, we show that participants indeed use external templates during search when given the chance. This behavior was observed during both simple and complex search, scaled with task difficulty, and was associated with improved performance. Furthermore, we show that participants used external sampling not only to offload memory, but also as a means of verifying whether the template was remembered correctly at the end of trials. We conclude that the external world may not only provide the challenge (e.g., distractors), but may dynamically ease search. These results argue for extensions of state-of-the-art models of search, because external sampling seems to be used frequently, in at least two ways and is actually beneficial for task performance. Our findings support a model of visual working memory that emphasizes a resource-efficient trade-off between storing and (re)attending external information.

FINANCING AND CAPITAL STRUCTURE

The capital structure denotes the composite blend of debt and equity utilized by a business entity.In the past, the concept of capital structure was commonly categorized as a highly specialized and technical aspect of corporate management that pertained to a limited number of individuals within an organization.In the perspective of a conventional business individual, the likelihood of this vicinity to produce ample profits was rather low.The generation of considerable revenue is observed to be comparatively pronounced in certain financial domains, such as appropriately identified investment initiatives, when juxtaposed with other areas of financial pursuits.In recent times, there has been a substantial transformation in the prevailing circumstance.The area of capital structure has garnered significant attention and interest within academic discourse.The present discourse concerns both the theoretical and practical aspects of finance.The utilization of said funds may be extended towards facilitating the comprehensive functioning of the enterprise and executing investment operations. The various forms of capital structure commonly recognized include equity share capital, debt financing, preference share capital, and vendor financing.The present study aims to examine various aspects related to capital structure, including the challenges associated with the precise measurement of capital structure. Additionally, individual authors suggest that there exist numerous intriguing areas for future exploration in this domain.Anticipated outcomes encompass factors such as the provision of capital from the supply side, the correlations between capital structure and labor agreements, financial contracting, the dynamic trade-off theory, and the rate of capital structure adjustments. The aforementioned concepts will be subjected to scrutiny to evaluate their potential applicability as findings for research purposes.Some emphasis is also placed on the issue of asymmetric information and moral hazard that may arise between the parties involved in a given scenarioThe role of investors and issuers of diverse securities is fundamental in the financial domain.In the following, we also examine the three fundamental principles underlying the concept of capital structure in the realm of finance. The concept of capital structure irrelevance, the significance of the debt tax shield, and the interrelationship between the financing decisions and firm value represent essential themes in the field of finance.Attention is also focused on the expected financial costs associated with insolvency and their impact on determining the optimal capital structure.These ideas try to figure out if a firm can make more money by changing how it gets its money. Each idea has a unique answer, which means capital structure is a complex but interesting subject.

Examining Capital Structure Determinants for ASEAN Energy Firms

Increasing energy insufficiency is the main trench for the South East Asian countries. Though, there are rare empirical inquiries in relation to the energy firms’ capital structure determinants for the firms functioning in the Association of Southeast Asian Nations (ASEAN). Therefore, this study is an attempt to discover the capital structure determinants of energy firms that are functioning in the six key economies of ASEAN region which are Malaysia, Indonesia, Thailand, Philippines, Cambodia and Vietnam. In this setting, a total of 144 energy firms’ yearly Panel Data is involved over 14 years period from 2007 to 2020. The seven core determinants of capital structure, namely tangibility, return on equity, current ratio, non-debt tax shield, inflation and annual gross domestic product are inspected in relation to capital structure which is measured by ratio of debt to total asset. Employing both Panel Data models that are Static and Dynamic models via using robust estimator i.e. Generalized Method of Moments (GMM), the results reveal that tangibility and profitability are the most prominent determinants among all others. Evidently, the two newly introduced capital structure determinants that are inflation and energy consumption for ASEAN region energy firms are also reported significant by dissimilar estimators. The significant character of tangibility, profitability and lagged dependent variable directly infers the relevance of Dynamic Trade-Off theory. The findings provide new ways for policy makers to construct parallel strategies which will not only help out to overcome the energy scarcity issues but also to enhance regional level integration.

Following the Talent in Entrepreneurial Firms

Entrepreneurial firms are often founded by uniquely talented individuals. Given that talent does not always beget talent, succession can be challenging. An analytical model is used to explore dynamic tradeoffs of competence in the choice between an insider and an outsider in the succession of a talented individual. The model is illustrated with an application to family business.

Board Governance Mechanisms and Capital Structure of Saudi Non-Financial Listed Firms: A Dynamic Panel Analysis

The dynamic trade-off model emphasizes that random shocks and other constraints may force firms to deviate from their optimum debt ratio. In addition, firms must incur adjustment costs for them to revert to their target level due to market frictions. However, prior literature in Saudi does not consider the effect of adjustment costs in determining how board governance mechanisms influence capital structure. By exploiting the generalized method of moments framework (GMM), this study analyzed the balanced panel of 100 Saudi non-financial listed firms covering the period from 2010 to 2019. The research found that Saudi firms observed a dynamic adjustment to attain their target leverage at 30.46% annually. Besides that, findings from the present study equally indicate strongly that board size and CEO tenure are negatively associated with leverage. There is also strong evidence that Saudi firms with a substantial number of independent directors pursue a more levered capital structure. Gender diversity appears insignificant in predicting the firms’ target debt ratio. Consequently, the Saudi board of directors and firms’ managers should consider the adjustment costs and other market frictions when designing the optimum debt-equity ratio.

Epsilon-Greedy-Based MQTT QoS Mode Selection and Power Control Algorithm for Power Distribution IoT

Employing message queuing telemetry transport (MQTT) in the power distribution internet of things (PD-IoT) can meet the demands of reliable data transmission while significantly reducing energy consumption through the dynamic and flexible selection of three different quality of service (QoS) modes and power control. However, there are still some challenges, including incomplete information, coupling of optimization variables, and dynamic tradeoff between packet-loss ratio and energy consumption. In this paper, the authors propose a joint optimization algorithm named EMMA for MQTT QoS mode selection and power control based on the epsilon-greedy algorithm. Firstly, the joint optimization problem of MQTT QoS mode selection and power control is modeled as a multi-armed bandit (MAB) problem. Secondly, the authors leverage the online learning capability of the epsilon-greedy algorithm to achieve joint optimization of MQTT QoS mode selection and power control. Finally, they verify the superior performance of the proposed algorithm through simulations.

Is this rating worth it? The benefits of credit ratings in the dynamic tradeoff model

PurposeThis study seeks to identify the main determinants of the optimal capital structure by reexamining the interpretation of the conventional set of explanatory variables used as proxies for the costs and benefits of debt in the context of the dynamic tradeoff theory.Design/methodology/approachThe authors isolate the variation in leverage due to different targets from that caused by deviations by aggregating the data across a dimension identifying firms with similar targets – credit rating category.FindingsContrary to theoretical priors, large and profitable rated firms have lower targets. The authors show that size and profitability proxy for non-financial risk and that, for rated firms, non-financial risk is positively correlated to the optimal leverage. The benefits of a better rating outweigh the costs of foregone tax shields for firms with relatively low non-financial risk. The authors find support for that theory in institutional trading – institutional investors do not punish highly rated firms when credit downgrades occur.Originality/valueThis paper contributes to the capital structure literature by developing a new approach based on data aggregation. This study is the first, to the authors’ knowledge, to find a positive effect of the firm's non-financial risk on target leverage among rated firms. The authors argue that the benefit of a better credit rating is an increasing function of the rating itself. The authors also contribute to the literature on the impact of credit ratings on the capital structure choices of the firm.

Endogenous Firm Competition and the Cyclicality of Markups

Abstract We show that the cyclicality of output growth is a sufficient predictor for the cyclicality of markups in models that micro-found variable markups through dynamic trade-offs. We use data on markups from the U.S. as well as survey data on firms' expectations from New Zealand to test the predictions of these models and find evidence in favor of their mechanisms. Finally, we study the implications of these mechanisms for cyclicality of markups in a calibrated general equilibrium model. In particular, we find that the degree of hump-shaped response in output is crucial for the direction of aggregate markup cyclicality.

Does Private Equity Over-Lever Portfolio Companies?

Detractors have warned that Private Equity (PE) funds tend to over-lever their portfolio companies because of an option-like payoff, building up default risk and debt overhang. This paper argues PE-ownership leads to substantially higher levels of optimal (value-maximizing) leverage, by reducing the expected cost of financial distress. Using data from a large sample of PE buyouts, I estimate a dynamic trade-off model where leverage is chosen by the PE investor. The model is able to explain both the level and change in leverage documented empirically following buyouts. The increase in optimal leverage is driven primarily by a reduction in the portfolio company's asset volatility and, to a lesser extent, an increase in asset return. Counterfactual analysis shows significant loss in firmvalue if PE sub-optimally chose lower leverage. Consistent with lower asset volatility, additional tests show PE-backed firms experience lower volatility of sales and receive greater equity injections for distress resolution, compared to non PE-backed firms. Overall, my findings broaden our understanding of factors that drive buyout leverage.

The firms’ debt reversibility trend: An application to a large sample of industrial SMEs

The corporate debt reversibility analysis can be carried out not only from the owner/manager’s active intervention perspective but also from the perspective of a mechanical reversion, independent of owner/managers’ deliberations. Our study aims to discover how and which theoretical perspective underlying reversibility has the most significant impact on the capital structure of Portuguese industrial small and medium-sized enterprises (SMEs). The present paper proposes a new approach linking the measures commonly used to determine the target leverage level to the specific assumptions of theories addressing debt dynamics. Our results show that the perspective with the stronger impact on capital structure materialises in the dynamic trade-off theory assumptions. However, owners/managers also strongly consider the industry references to which firms belong. The perspective of mechanical debt reversion also contributes, at its level, to the firms’ debt permanent reversibility in the sense of possible long-term stationarity.

Discovering Capital Structure Determinants for SAARC Energy Firms

Energy scarcity is the core drain for the South Asian economies. However, there is a lack of studies in relation to the capital structure determinants in the context of South Asian Association for Regional Cooperation (SAARC). Thus, this study is an attempt to explore the capital structure determinants of energy sector firms which are operating in the four large economies of the SAARC region that are Pakistan, India, Bangladesh and Sri Lanka. In this context, a total of 34 energy sector firms’ Panel Data is entailed over the period of 2007-2020. The six key capital structure determinants, namely asset tangibility, current ratio, return on equity, non-debt tax shield, annual gross domestic product are examined in relation to debt to total asset ratio. Deploying Panel Data Static models and Dynamic model via Generalized Method of Moments (GMM), the outcomes reveal that asset tangibility and current ratio are the most prominent determinants among all others. The significant role of profitability and tangibility through different estimators directly infers the relevance of Dynamic Trade-Off theory. The findings provide new ways for policy makers to construct parallel strategies which not only help out in overcoming the energy scarcity issues but also enhance regional level integration.

Hydrodynamic trade-offs in potential swimming efficiency of planispiral ammonoids

AbstractAmmonoid cephalopods were Earth's most abundant oceanic carnivores for hundreds of millions of years, yet their probable range of swimming capabilities is poorly constrained. We investigate potential hydrodynamic costs and advantages provided by different conch geometries using computational fluid dynamics simulations. Simulations of raw drag demonstrate expected increases with velocity and conch inflation, consistent with published experimental data. Analysis at different scales of water turbulence (via Reynolds number) reveals dynamic trade-offs between conch shape, size, and velocity. Among compressed shells, the cost of umbilical exposure makes little difference at small sizes (and/or low velocity) but is profound at large sizes (and/or high velocity). We estimate that small ammonoids could travel one to three diameters per second (i.e., a typical ammonoid with a 5-cm-diameter shell could travel 5–15 cm/s), but that large ammonoids faced greater discrepancies (a 10 cm serpenticone likely traveled <30 cm/s, while a 10 cm oxycone might achieve >40 cm/s). All of these velocities are proposed only for short bursts of jet propulsion, lasting only a few seconds, in the service of dodging a predator or conspecific rival. These analyses do not include phylogeny, taxonomy, second-order conch architecture (ribs, ornament, etc.), or hydrostatic consequences of internal anatomy (soft body, suture complexity). For specific paleoecological context, we consider how these results inform our reconstruction of Jurassic ammonite recovery from the end-Triassic mass extinction. Greater refinements will come with additional simulations that measure how added mass is influenced by individual shape-trait variations, ornament, and subtle body extensions during a single jet motion.

Speed of Adjustment of Capital Structure (Empirical Study on the Aviation Industry in Indonesia and Malaysia)

The purpose of this study is to prove how much SOA capital structure, what factors affect the optimal leverage and what factors affect the SOA capital structure in the airline industry in Indonesia and Malaysia. Hypothesis testing in this study was conducted using panel data regression. The sample used is 10 aviation industry companies in Indonesia and Malaysia with 100 observations from 2010-2019. The regression model is determined based on the results of the Chow and Hausman tests. Empirical findings from 100 observations of panel data variables of company size, short-term debt and non-debt tax shield have a positive and significant effect on optimal leverage. Profitability, asset growth, and business risk variables have a negative and significant effect on optimal leverage. Partial adjustment model (PAM) to measure the speed of firm adjustment to optimal leverage. From the partial adjustment model estimation results, the significant leverage lag indicates that airline industry companies in Indonesia and Malaysia adjust their capital structure towards optimal leverage with SOA of 46.20% per year. Generalized methods of moments (GMM) to estimate the speed of capital structure adjustment. The results show that macroeconomic variables, namely GPD growth, have a negative and significant influence on the speed of capital structure adjustment. In conclusion, it is evident that the funding behavior in the airline industry in Indonesia and Malaysia tends to follow the dynamic trade off theory.

Capital Structure Adjustment Speed in Indonesia: Does Sharia Compliance Matter?

Leverage Speed of Adjustment (henceforth SOA) has previously been studied by researchers; however, the examination of its connection with sharia law has been overlooked. The majority of the literature currently in circulation comes from the Middle East and North Africa (MENA) region and Malaysian markets, so its implications for businesses in Indonesia may not be applicable given local regulations and cultural norms. This study investigates the distinction in the debt levels and the SOA of firms in Indonesia based on compliance to sharia law. The Two-step Generalized Method of Moment (GMM) model was used to calculate the SOA in the leverage model. We discover that sharia compliance plays a role in stimulating the Indonesian firm’s level of debt and leverage SOA. To put it more precisely, sharia firms use less debt and have a slower SOA than conventional firms. Overall, Indonesian firms implement the dynamic trade-off theory in their leverage framework. Instead of relying on conventional debt, which is only available at certain levels, sharia firms must issue Islamic debt instruments to accelerate the speed of adjustment. Even after a robustness test using various sharia compliance approaches, our results remained consistent.

Investigating the capital structure determinants of energy firms

The ongoing energy crisis has turned into a major bottleneck for economic growth and has had a long-lasting impact on the performance of energy firms. However, recognizing capital structure determinants helps these firms construct an ideal capital structure and attain their target of profitability. Thus, this study is an attempt to identify capital structure determinants for whole energy firms that are operating in dissimilar regions and countries. The 14-year balance panel data of 281 energy firms, i.e., 2007–2020, is used to perform the analysis. The debt-to-asset ratio is nominated as a dependent, whereas sales, current ratio, asset tangibility, non-debt tax shield, return on equity, inflation, gross domestic product, and energy consumption are selected as independent variables. The Panel Data Static models and Dynamic models via the Generalized Method of Moments (GMM) are executed to perform the inquiry. The results indicate that lagged dependent variables, sales, tangibility, return on equity, inflation, gross domestic products, and energy consumption are the main capital structure determinants of energy firms. The significant lagged dependent variable, tangibility, sales, and the existence of speed of adjustment point towards the practice of the Dynamic Trade-off theory by energy firms to maintain capital structure at all times. The results obtained by this empirical analysis are a new addition to the financial literature and will help policymakers develop similar policies regarding the capital structure-maintaining practices of energy firms that will enhance energy-related ties among countries.

Labor protection and dynamic leverage adjustments in the OECD countries

We study the link between employment protection laws (EPLs) and the speed of corporate leverage adjustments, emphasizing the role of the country's legal enforcement. Using comprehensive data from 19 OECD founding countries/members, we explore that firms operating in more stringent EPLs adjust slower to their target leverage ratios. These relationships are significant and robust for several tests addressing the endogeneity concern of a battery of robustness checks including an alternative measure of EPLs, an alternative measure of leverage, and alternative subsamples. We further demonstrate that the negative association between the stringency of EPLs and leverage SOA is more pronounced in countries with effective legal enforcement. Overall, our results are consistent with the dynamic trade-off theory of capital structure.