Net Debt Ratio Research Articles

WHICH DETERMINANTS EXPLAIN MUNICIPALITIES' DEBT? THE CASE OF PORTUGUESE MUNICIPALITIES FROM 2014 TO 2017

Objective: Municipality sustainability is crucial for promoting the country's wealth and the citizens' well-being. Therefore, understanding municipalities' indebtedness is relevant to avoid situations of severe financial constraints. This work aims to understand the determinants that explain Portuguese municipalities' debt levels (both total and excess of debt), after the introduction of the Regime Financeiro das Autarquias Locais e Entidades Intermunicipais (RFALEI) published in 2013 (Law no. 73/2013). Theoretical Framework: In this work, the indebtedness of Portuguese municipalities is studied, from the perspective of net debt and excess indebtedness in order to give a broader picture of this topic and to be able to characterize the main determinants that explain debt in Portuguese municipalities. Method: Municipalities' debt is measured using not only the net debt ratio (as most of the works) but also the excess of municipalities' indebtedness. Institutional, political, and financial-economic variables are analyzed to explain debt using a linear regression model with fixed effects. The sample includes all Portuguese municipalities for the period from 2014 to 2017. Results and Discussion: Results show that only institutional and financial-economic determinants are relevant to explain municipalities’ indebtedness. Municipalities with less tourism, less State transfers, and with more capital revenues are the ones more indebtedness. Beyond these factors, municipalities with more investments and less tax revenue tend to present more excess debt. Research Implications: The results of this work are useful to a group of users of the information provided by municipalities: By knowing the main reasons that lead to debt, municipal managers can somehow reduce debt; Regulatory entities can create laws to limit debt and citizens know how public money is being managed. Originality/Value: This work analyzed all Portuguese municipalities, during four years, a larger sample than used in previous works. Moreover, institutional, and financial-economic determinants are also used, in addition to political variables, and these determinants show relevance to explain municipalities' debt. Finally, we focus not only on the debt ratio but also on excess of debt which was the main concern of RFALEI.

Sustainability Covenants as a Financial Measure to Enhance the Efficiency of Companies

This article aims to identify the status quo of sustainability covenants firstly, secondly analyze their possibilities in enhancing sustainability performance and thirdly present further research directions. Covenants are additional contractual agreements mainly used in financial contracts, e.g. loans. They often focus on financial performance indicators, e.g., equity and net debt ratio, which the borrower must fulfil. However, the purpose of this article is to present a new approach to non-financial covenants, so-called sustainability covenants. Therefore, also nowadays ecological and social challenges are addressed. Banks have a huge impact on sustainable development by introducing more non-financial indicators in evaluating the creditability of borrowers. As a key hypothesis, this article argues that the approach of integrating ecological and social objectives through non-financial covenants is underrepresented in economic and business practice. Therefore, this article wants to examine how those objectives can be integrated into the financial concept of covenants and rely on research towards an integrative sustainability approach. In addition, a systematic literature review was conducted from October 2022 to July 2023 to analyze the status quo and derive future research directions. The review was based on two databases – Google Scholar and Scopus. As one key result, it was revealed that there is scarce existing literature on sustainability covenants, which refers to them as a policy measure. Only a few publications analyze their usage in financial contracts. However, this study implies the necessity for further research on sustainability covenants, emphasizing that they are powerful indicators to enhance the sustainability performance of the borrower.

The Comparison of Financing Efficiency of Small and Medium Enterprises in Economically Underdeveloped Regions in China: A Perspective Study

Small- and medium-sized enterprises (SMEs) are important foundations to implement mass entrepreneurship and innovation and play an irreplaceable role in increasing employment, promoting economic growth, as well as scientific and technological innovations, and providing particularly social harmony and stability and imminently are strategic entities to the national economy and social development in underdeveloped regions. However, the low-efficiency financing of SMEs has gradually become a major factor that restricts the high-quality development of SMEs in the current conditions. In this paper, interest expenditure, gearing ratio, and the net debt ratio as input indicators and current asset turnover ratio, cost margin, and main business income as output indicators are used to conduct the DEA-BCC model. By utilizing the GEM-listed private enterprises between 2017 and 2020 in China, the nationwide financing efficiency of SMEs is firstly measured, and then the financing efficiencies of SMEs in economically developed regions and lagging regions are calculated separately. The comparison reveals that the financing efficiency of SMEs in economically underdeveloped regions is not only lower than the national average figure but also much lower than the financing efficiency level in economically developed regions, which is the result of the combined effect of internal and external factors that enterprises face. Further, this paper finds that unexpected public events, core technical personnel, and enterprise size have an impact on the financing efficiency of SMEs when running group testing. This paper puts forward rationalized suggestions to the institutions to improve the financing efficiency of SMEs in underdeveloped regions concerning the conducted research, which are called government, financial institutions, and enterprises.

FINANCING RISKS AND COUNTERMEASURES IN REAL ESTATE INDUSTRY

Under the supply-side regulation of the “The Three Red Lines”, loan concentration management, pre-sale fund supervision and other policies, the asset-liability ratio and net debt ratio of China’s real estate enterprises continues to improve. However, at the same time, there is a contrast between leverage ratio decline and risk increase, indicating that there’s still serious capital problem in the real estate industry, and the existing high-cost financing risks, high-leverage operation risks, high-proportion indirect financing risks, and high-probability overseas financing default risks have not been properly addressed. In the long run, it is necessary to strengthen the structural and long-term regulation of financing in the real estate industry, clarify the differences in risk degree of real estate enterprises, improve the stable expectations of participants in the real estate industry, and fundamentally solve the problems of high-cost financing and high-leverage operations. In the short term, it’s necessary to increase the direct financial support of high-quality real estate enterprises, standardize the external debt financing of real estate enterprises, and resolve the high-cost financing risks, high-proportion indirect financing risks and overseas financing default risks.

Do Capital Structure Models Square with the Dynamics of Payout?

We explore whether theoretically the target leverage and pecking-order models can be reconciled with payout smoothing. Investment absorbs a significant part of income and asset volatility if the firm follows both a payout target and a net debt ratio (NDR) target. A positive (negative) NDR amplifies (dampens) shocks in assets. Slow adjustment toward the NDR target facilitates payout smoothing. Under strict pecking-order financing, income shocks are absorbed primarily by changes in net debt. More payout smoothing implies a stronger negative relation between debt and net income. Shocks to assets in place need not affect current payout.

Do Capital Structure Models Square with the Dynamics of Payout?

We explore whether theoretically the target leverage and pecking order models can be reconciled with payout smoothing. Investment absorbs a significant part of income and asset volatility if the firm follows both a payout target and a net debt ratio (NDR) target. A positive (negative) NDR amplifies (dampens) shocks in assets. Slow adjustment towards the NDR target facilitates payout smoothing. Under strict pecking order financing, income shocks are absorbed primarily by changes in net debt. More payout smoothing implies a stronger negative relation between debt and net income. Shocks to assets in place need not affect current payout.

Avoiding taxes: banks\u2019 use of internal debt

This paper investigates how multinational banks use internal debt to shift profits to low-taxed affiliates. Using regulatory data on multinational banks headquartered in Germany, we show that banks use this tax avoidance channel more aggressively than non-financial multinationals do. We find that a ten percentage points higher corporate tax rate increases the internal net debt ratio by 5.7 percentage points, corresponding to a 20% increase at the mean. Our study also takes into account the existence of conduit entities, which simply pass through financial flows. If conduit entities are systematically located in low-tax countries, previous studies may have underestimated the extent of debt shifting.

Optimal investment in the presence of intangible assets and collateralized optimal debt ratio in jump-diffusion models

This paper studies an investor’s optimal investment, optimal net debt ratio with collateral security and optimal consumption plan in an economy that faces both diffusion and jump risks. The underlying assets are tangible and intangible assets. There have been major challenges of quantifying intangible assets. In this paper, we assume that the price of our intangible asset follows a jump-diffusion process. The tangible asset of the investor is divided into two parts: financial and nonfinancial (fixed) assets. Financial assets are invested into a market that is made up of a riskless asset and multiple risky assets (stocks). The fixed asset and stock prices follow jump-diffusion processes. This paper aim at (1) maximizing the total expected discounted utility of consumption in the infinite time horizon in the presence of both tangible and intangible assets, (2) determining the optimal net debt ratio for an investor in the presence of jumps, (3) determining the effect of intangible assets on the investor’s portfolio and (4) determining the optimal portfolio strategies of an investor who invest in an economy that is exposed to both diffusion and jump risks. This paper obtained the optimal consumption, optimal portfolio strategies and optimal net debt ratio of an investor under some suitable utility functions. We found that the value of the intangible assets depends explicitly on all the market parameters including the production rate, optimal wealth and optimal debt ratio of the investor over time. This implies that any change in the market parameter values, optimal investment, optimal net debt ratio and the production rate will lead to changes in the values of the intangible assets.

Avoiding Taxes: Banks' Use of Internal Debt

This paper investigates how multinational banks use internal debt to shift profits to low-taxed affiliates. Using regulatory data on multinational banks headquartered in Germany, we show that banks use this tax avoidance channel more aggressively than non-financial multinationals do. We find that a ten percentage points higher corporate tax rate increases the internal net debt ratio by 5.7 percentage points, corresponding to a 20% increase at the mean. Our study also takes into account the existence of conduit entities, which simply pass through financial flows. If conduit entities are systematically located in low-tax countries, previous studies may have underestimated the extent of debt shifting.

Avoiding Taxes: Banks' Use of Internal Debt

This paper investigates how multinational banks use internal debt to shift profits to low-taxed affiliates. Using regulatory data on multinational banks headquartered in Germany, we show that banks use this tax avoidance channel more aggressively than non-financial multinationals do. We find that a ten percentage points higher corporate tax rate increases the internal net debt ratio by 5.7 percentage points, corresponding to a 20% increase at the mean. Our study also takes into account the existence of conduit entities, which simply pass through financial flows. If conduit entities are systematically located in low-tax countries, previous studies may have underestimated the extent of debt shifting.

Cash holdings and CEO risk incentive compensation: Effect of CEO risk aversion

Liu and Mauer (2011) document that firm cash holdings are positively related to the risk incentive component of CEO compensation and attribute this relation to bondholder-shareholder conflicts. We propose that the positive relationship could be due to a managerial risk aversion effect and find supporting evidence for this view. In our study, we focus on zero debt and negative net debt ratio firms in order to minimize the possibility that the risk incentive effect on cash is driven by bondholder-shareholder conflicts as suggested by Liu and Mauer (2011). We find that vega is positively related to cash holdings and that this relationship is enhanced for firms with greater managerial risk aversion. We conclude that managers appropriately respond to risk incentives by taking on riskier projects but increase cash holdings to reduce their undiversified risk to the firm as a consequence of greater risk incentive compensation.

Optimal investment risks and debt management with backup security in a financial crisis

This paper examines a theoretical and an empirical study of an optimal investment management strategies and debt profile of an investor in a financial crisis. In order to minimize the incident of credit risks, the debts are backup with collaterals. The investment strategies and consumption plan of an investor are exposed to diffusion and credit risks. In this paper, we put into consideration a market that is exposed to four background risks which include inflation, investment, fixed asset and income risks. The investor’s income process is influenced by the impact of labor force with the production rate function and is assumed to be stochastic. The market is categorized into two: financial market (FM) and fixed asset (FA) market. The underlying assets in the FM are stocks and a riskless asset. This paper aims to (i) maximize the total expected discounted utility of consumption of the investor in an infinite time horizon, (ii) determine the optimal net debt ratio for an investor under an economy that faces financial crisis, (iii) determine the optimal investment strategies of an investor who invest in an economy that is exposed to both diffusion and credit risks, and (iv) determine the real wealth of an investor. The optimal consumption and investment strategies as well as optimal net debt ratio under power utility function were obtained. We found that investment in FA can hedge the credit risks in the stock market investment portfolio. We also found that the investment portfolio in FA depends inversely on the optimal debt ratio of the economy and directly on the investment portfolio in FM. The numerical implementation of our models using real data from ten companies collected from Nigerian Stock Exchange is also presented in this paper.

The Dynamics of Investment, Payout and Debt

We develop a dynamic agency model of a public corporation. Managers underinvest because of risk aversion. They smooth rents and payout. They do not exploit interest tax shields fully. The interactions of investment, debt, and payout decisions can change drastically depending on managers’ preferences. Managers with power utility set investment, debt, and payout proportional to the firm’s net worth, generating a constant (possibly negative) net debt ratio. With exponential utility, investment decisions are separated from decisions about debt and payout. More profitable firms become cash cows, and less profitable firms accumulate debt, as in a pecking-order model. Received July 9, 2015; editorial decision January 30, 2017 by Editor Itay Goldstein.

The Dynamics of Investment, Payout and Debt

We develop a dynamic model of a public corporation run by risk-averse managers, who set investment, debt and payout policies subject to a governance constraint. Managers smooth rents but do not fully exploit interest tax shields. Managers with power utility set investment, debt and payout proportional to the firm's net worth, generating a constant (possibly negative) net debt ratio. With exponential utility, investment is independent of net worth, and debt is negatively related to net worth. Profitable firms become cash cows and unprofitable firms become highly levered. Financial decisions therefore depend nontrivially on the nature of managers' preferences.

Strategies for fiscal consolidation in Japan

Japan's key fiscal challenge is to put public finances on a more sustainable footing. This paper investigates the macroeconomic implications of alternative fiscal strategies for Japan using the IMF's Global Fiscal Model. The results suggest that (i) an adjustment package that achieves primary balance through lower social transfers and government spending and a higher VAT is the most viable option and has a smaller negative impact on growth than other fiscal measures; (ii) achieving primary balance is not sufficient to stabilize the net debt ratio; (iii) prefunding future aging costs provides greater long-term benefits compared with less front-loaded strategies; (iv) tax reform involving shifting from corporate taxation to consumption taxation could mitigate the short-term output losses associated with fiscal consolidation; (v) the spillovers to the rest of the world from consolidation in Japan are positive in the medium term, but modest.

Strategies for Fiscal Consolidation in Japan

Japan's key fiscal challenge is to put public finances on a more sustainable footing. This paper investigates the macroeconomic implications of alternative fiscal strategies for Japan using the IMF's Global Fiscal Model. The results suggest that: (i) an adjustment package that achieves primary balance through lower social transfers and government spending and a higher VAT is the most viable option and has a smaller negative impact on growth than other fiscal measures; (ii) achieving primary balance is not sufficient to stabilize the net debt ratio; (iii) prefunding future aging costs provides greater long-term benefits compared with less front-loaded strategies; (iv) tax reform involving shifting from corporate taxation to consumption taxation could mitigate the short-term output losses associated with fiscal consolidation; and (v) the spillovers to the rest of the world from consolidation in Japan are positive in the medium term, but modest.