Pecking Order Predictions Research Articles

Testing Pecking Order Prediction of Financing Choices in NEPSE Listed Non-Financial Companies of Nepal

In a financial market with information, agency and contract enforcement problem, partially informed firms have difficulty to access in capital markets and they face some restrictions to get adequate external capital at similar cost of their internal funds. Hence, these firms display the preferential order of financing choices, for example; first they invest internal funds, second debt capital and equity as last resort. However, such preferences of financing order commonly known as Pecking Order are not similar in all cases due to the nature of firms, their financial health, borrowing capacity, and functioning of capital markets. Under this backdrop, this study attempted to test this Pecking Order Hypothesis (POH) in financing decisions of Nepalese firms. Moreover, it tried to examine the effect of firm's borrowing capacity, informational efficiency, financial risk, operating growth, taxes and internal profitability on pecking order financing preferences of firms. It used quantitative approach of analysis to examine the financing behavior of 16 non-financial NEPSE listed companies. Descriptive and inferential statistics i.e. Pooled Ordinary Least Square (OLS) regression approach was used to test the hypothesis and data comprised unbalanced panel (n=262 observations) obtained from annual financial reports of sampled companies. The study results revealed that firm specific financial risk including borrowing capacity, operating growth, internal profitability and information efficiency have significant impact in firms' financing polices. Firms have preferences to use debts instead of equity when they face financing deficiency and these preferences are prominent when firms plummet in severe financing constraints. Hence, this study concluded that a firm's capacity to trade off its financial risk with some firm specific attributes outlined the most of the financing policies of Nepalese enterprises. These financial risks absorption capacity of the firms could be considerably improved if firms improved their profitability, sales growth, information efficiency and spare borrowing capacity; hence, these factors are imperative to design the optimal capital structure of firms and maximize their values.

Debt policy and firm performance of family firms: the impact of economic adversity

PurposeThe purpose of this paper is to analyse the relationship between debt policy and performance among family firms (FF), providing evidence on whether FF differ from non-family firms (NFF). It also focusses on the possibility of asymmetrical debt policy impact on performance between periods of stability and economic adversity.Design/methodology/approachThe paper employs panel data regression, considering a sample of Portuguese listed firms for the period between 1999 and 2014.FindingsOverall, the author find evidence that debt contributes negatively to firms’ performance, which is consistent with the pecking order prediction, and that the relationship between debt and performance do not differ significantly between FF and NFF. After addressing the endogeneity issue, the author conclude that firms’ performance is negatively influenced by both short- and long-term debt. Considering the total debt, the negative relationship between the two variables differs from family and non-family companies. The results show that age and size influences positively, and the independence of the board directors influences negatively the firms’ performance. The empirical findings suggest that under economic adversity, the firms’ performance is negatively affected. Finally, the author conclude that return on assets appear to fit better than return on equity or MB when you want to relate debt and firm performance.Research limitations/implicationsA limitation of this study is the small size of the Euronext Lisbon that results in a small sample.Originality/valueThis paper offers some insights on the relationship between debt policy and firm performance from a country with weak protection of minority shareholders, concentrated ownership and a significant family control. It also gives the opportunity to analyse whether firm performance differs according to market conditions.

Testing Trade-off, Agency Cost and Pecking Order Predictions of Capital Structure: Lessons from the Pakistani Experience

Why the financial structure is still believed to be relevant within business firms? A number of competing theories have been developed for explaining this question. The three theories that stand out are Pecking order, Trade off and Agency cost. However, the first two are frequently referred to and contradictory to each other. The ‘trade-off’ theory suggests that corporate taxes in combination with bankruptcy costs imply that there exists an optimal combination of debt and equity capital that management should search for in order to maximize shareholder value. The challenging ‘pecking order’ theory recognizes no such optimum, but instead states that there is a ranking order in the firms between different types of capital where the issuance of equity capital is seen only as a last resort. This paper examines the role and importance of different firm characteristics that explain financial structure as well as the theories that best fit in Pakistani context and considers concepts like optimal capital structure, risk, financial hierarchy and asymmetric information. The sample of the study consists of firms extracted from financial (70 firms) and non-financial (120 firms) sectors listed on the KSE for a period of 2000-2013. Secondary data is extracted from firm’s annual reports. The sources like SBP publications; Bloom burgee business week and KSE were used to collect data. The results indicate that firms in the two sectors prefer funds generated internally for financing their assets. Moreover debt will be preferred to equity once external funds are required. The pecking order appears to be a good description of financing behavior for a large sample of firms over a long time period after accounting for debt capacity. We have also studied agency theory of the firm however there was little evidence to support the Agency cost theory.

Pecking Order Prediction of Debt Changes and Its Implication for the Retail Firm

Purpose – This paper aims to investigate whether information asymmetry could explain capital structures in Korean corporations. According to...

Internationalization and Corporate Cash Holdings: Evidence from Brazil and Mexico

This research expands on previous studies of cash holdings and their determinants by studying the relationship between the degree of internationalization and the level of corporate cash holdings. We used a sample of non-financial, publicly traded companies from Brazil and Mexico for the period from 2006 to 2010. Our results suggest that the degree of internationalization is a determinant of cash, and that cash holding increases quadratically as the degree of company internationalization grows. Such behavior was different from the North American company studies in Chiang and Wang (2011). Similar to previous studies, both Trade-off and Pecking Order predictions are relevant control variables in our model. Finally, companies held less cash on their balance sheets during the pre-crisis period.

The Firm's Trade Credit Policy Effects on Financial Distress: A Whole Response to Molina and Preve (2012)

Purpose – The aim of this paper is to analyze financial distress probability conditions based on short and long-term capital insufficiencies models, instead analysing the financial distress effects on firm’s trade credit. The conditions under which may be explained are based on scholar explanatory variable sets constituted by financing, profitability, return volatilities and flexibilities in financing and assets structure. Design/methodology/approach – Capital insufficient models are tested on two prominente bankruptcy predictions models using probit regression analysis, where control variables are related to trade credit policy and trade credit risk taking levels. Sample consists of 1.322 Western European small firms related to 9 countries. Data sample is related to the 1990-2002 period which is desired for research and characterized by a relative economic and financial stability. Findings – In relation to the inclusion of trade credit duration gap and trade credit risk taking associated to different coverage ratios in basic model (1) finish to eliminate return on assets, return volatilities and trade credit risk taking to coverage ratio effects on short term capital insufficiency. Negative working capital acts as a complement of short term financing positive effect on the deterioration of short term capital insufficiency that contributes to increase probability of financial distress (or bankruptcy). More over, the inclusion of trade credit duration gap and trade credit risk taking associated to different coverage ratios in basic model (2) eliminate return on sales volatility, negative working capital and trade credit risk taking ratios more related to core business coverage ratios impacts. Equity impact acts as the most important autonomous effect to meet trade-off predictions on strongly reducing both short and long term capital insufficiencies. Pecking order predictions are also respected by the negative impact of return on assets on long term capital insufficiency, confirming findings that no single theories provides a complete explanation for all aspects of the data analysed. Pecking order and trade off predictions are long term well running when trade credit control variables enter in long term capital insufficiency basic model. At last, FDL and Z-core models are substantially confirmed by results of long term capital insufficiency model.Research limitations/implications – This study is the first period research on financial distress, which is limited to a stabilized period of data, to be completed further with a complementary research using data from 2003 to 2015. This second period research will include crisis impact on capital insufficiencies as a reinforced sign of financial distress and/or bankruptcy within a double period comparative analysis.Practical implications – Findings contribute to understand an alternative path to explain financial distress and or bankruptcy from short and long-term capital insufficiencies; capital requirements are suggested to be diversified to help firms to achieve financial sustainability conditions.Originality/value – To the author’s best knowledge, short and long-term capital insufficies with trade credit control variables impact is not studied so far in the existing corporate financing literature.

Financing patterns in new technology-based firms: an extension of the pecking order theory

Understanding financial strategies and patterns of new firms is crucial to the theoretical unravelling of the entrepreneurial process as well as to the elaboration of appropriate support programs from practitioner and policy maker. The aim of this paper is to investigate whether a pecking order theory underlies the financing strategies of new technology-based firms (NTBFs). From the analysis of previous literature on the subject, controversial results emerge: while some authors have confirmed a traditional pecking order theory for NTBFs, others, on grounds of NTBFs major financial constraints derived from higher information asymmetry, have proposed a revised pecking order, where access to equity (in particular private equity) occurs prior to debt. This research has been carried out applying an approach based on estimation of internal financial gap (Cosh et al., ECOJ 119:71494-1533, 2009) using data from the Kauffman Firm Survey. Additionally, we extend the pecking order prediction by examining the effect of human capital as determinants for financing decisions, given its crucial role in shaping entrepreneurial dynamics of NTBFs. Our results support the existence of a revised pecking order in the case of NTBFs; moreover entrepreneur’s age and experience play a role in clarifying financial priorities of NTBFs.

The Firm’s Trade Credit Policy Effects on Debt and Capital Structure under Trade-Off and Pecking Order Predictions – A Panel Data Static Model Analysis, from European Western Countries

The aim of this paper is to analyze the conditions under which firm’s both book leverage and capital structure may be explained with the scholar explanatory variable sets constituted by financing, profitability and return volatilities. Innovative tangibility represented by a new assets flexibility as another explanatory variable and trade credit policy defined by trade credit duration gap and trade credit risk taking ratios as innovative control variables as well. Results show that leverage and capital structure models confirm pecking order and trade-off predictions, where a conjunct negative profitability and positive financial costs influence seems to correspond to a kind of compromise between profits and financial costs, in line with trade-off theory giving priority to internal generation of funds over debt. The innovative effort on this investigation is based on the replacement of firm’s tangible assets by firm’s assets structure that may represent a solution to avoid interest conflicts by achieving an under and over-investment trade-off. But the greater innovative contribution was centered on firm’s trade credit policy effects: trade credit duration gap and three trade credit risk taking ratios. Results also shows that the traditional explanatory variable sets have the impact evidenced in leverage and capital structure literature on confirming pecking order and trade-off. Contrary to our predictions firm’s trade credit duration gap doesn’t influence nor leverage neither capital structure levels but trade credit risk taking effects carry out an influence to increase leverage and deteriorate capital structure levels if they are closely related to the firm’s coverage ratio (coverage of financial costs by earnings before interest and taxes). In turn, trade credit risk taking related to gross and net coverage ratios (closer to core business) present results significant and relevant to reduce leverage level, while only trade credit risk taking related to net coverage ratio improves capital structure ratio. In the meantime, all the firm’s trade credit risk taking related to the three different coverage ratios never put in question the significant and relevant effects of return volatilities as risk variables on the increase/decrease of leverage and on the deterioration (or improvement) of capital structure ratio and may be considered reliable risk variables. For further investigations each, another countries or geographic groups of countries and sectoral basis must be investigated to confirm our results or using another explained variables like total debt, capital structure in relation with total debt and market-to-book ratios to reinforce all explanatory aspects related to market-timing perspectives and institutional characteristics. Final recommendations must oriented to further investigation related to leverage and/or capital structure as effective signs of financial distress and/or bankruptcy caused by other risk taking decisions, capital insufficiencies or unsteady capital structures. At last, a very useful recommendation to alleviate possible financial distress and/or bankruptcy consequences of excessive debt must be driven by proposals of research involving sustainability solutions based on interacted dependent variables as new adjustment models instruments.

Capital Insufficiencies, Absortion Role of Management Inefficiencies and Financial Distress (or Bankruptcy) Probabilities – A Panel Data Probit Analysis from European Western Countries

The aim of this paper is to analyze financial distress probability supported by two proxies defined by short and long term capital insufficiencies as dependent variables. The conditions under which may be explained with the scholar explanatory variable sets constituted by financing, profitability, return volatilities and flexibility in financing and assets structure. Control variables are related to firm’s trade credit policy: trade credit duration gap and trade credit risk taking associated when facing different coverage ratios. In relation to the inclusion of trade credit duration gap and trade credit risk taking associated to different coverage ratios in basic model (1) finish to eliminate return on assets, return volatilities and trade credit risk taking to coverage ratio effects on short term capital insufficiency. Another important conclusion is that short term financing withdraw to itself financial costs, trade credit duration gap ratio and trade credit risk taking ratios negative effects to deteriorate short term capital insufficiency. In turn, equity negative impact represents an important autonomous effect to meet trade-off predictions on reducing short term capital insufficiency besides decreasing its coefficient magnitude after entering trade credit variables in the basic model (1). Negative working capital acts as a complement of short term financing positive effect on the deterioration of short term capital insufficiency that contributes to increase probability of financial distress (or bankruptcy). Only trade-off predictions are present in all control models when equity presents permanently a negative impact on short term capital insufficiency. More over, the inclusion of trade credit duration gap and trade credit risk taking associated to different coverage ratios in basic model (2) presented before eliminate return on sales volatility, negative working capital and trade credit risk taking ratios more related to core business coverage ratios impacts on long term capital insufficiency. Another important conclusion is that short term financing represents now a financing substitution role that contributes to decrease long term capital insufficiency. In turn, equity impact acts as the most important autonomous effect to meet trade-off predictions on strongly reducing long term capital insufficiency after entering trade credit variables in the basic model (2). Pecking order predictions are also respected by the negative impact of return on assets on long term capital insufficiency, confirming findings that no single theories provides a complete explanation for all aspects of the data analysed. Pecking order and trade off predictions are long term well running when trade credit control variables enter in long term capital insufficiency basic model. At last, FDL and Z-core models are substantially confirmed by results of ours long term capital insufficiency model.

The Firm’s Trade Credit Risk Taking Process – A Panel Data Probit Estimation, from European Western Countries

On this investigation it is confirmed the main relevance of firm’s trade credit duration gap ratio when faced to different stages of firm’s income statement represented by gross coverage ratio and net coverage ratio (the higher risk taking probability) and coverage ratio (the lower risk taking probability). It innovatibly ratifies trade credit duration gap ratio as a firm’s trade credit risk taking instrument, instead of the days to pay accounts payable or the days sales outstanding alone and also confirms transactions cost theory with financial predictions, both insert in firm’s financing motives and pricing motives theory. On this issue, there are a very few investigations to analyse the trade credit duration gap ratio itself and none on the trade credit risk taking which is an innovator and useful approach taking into account prior and most recent findings related to each issue of the mentioned trade credit duration gap ratio. Specifically, our newly findings corroborate that when trade credit duration gap ratio is closer to coverage ratios the low trade credit risk taking probability is. Trade credit risk taking is higher when trade credit duration gap is faced to core business gross and net coverage ratios. In turn, the inclusion in the models the innovative assets structure (instead the simple and traditional tangibility measured by fixed assets) and negative working capital as control variables contribute to increase trade credit risk taking probability. More over, another control risky variables, represented by return of sales and equity volatilities, increase trade credit risk taking probability as well. These results confirm trade credit risk taking as a reliable firm’s internal risk variable and ratifies the existence of costs hierarchy, a substitution effect of trade debt mainly by short term financing and an absorption role of negative working capital effects by short term financing. Our newly findings also confirm that pecking order predictions are in the first explanatory line when trade credit duration gap is faced to coverage and gross coverage ratios, that is to say, when it is present to firm’s financial and variable costs as much increase as decrease trade credit risk taking probability. Results also ratifies that trade credit duration gap is an important and new source of firm’s internal risk taking when faced to financial and core business coverage ratios and that runs well in the short term and obey to both financing and pricing motives. From our point of view, there is a supplementary importance related to their apply on macroeconomic and public budgeting purposes towards a new organizational behaviour, risk approaches to meet firm’s risk taking and costs hierarchy. Because of the reasons exposed before, this investigation is very innovative, a complement of prior research on trade credit and useful to future developments on trade credit and risk management policies. But research related to other management concerns like corporate governance, capital structure, financial distress and technology effects among others, for further investigations will be useful, and on each activity sector and different countries or groups of countries will be remarkable as well.

The impacts of industry-specific factors and country- level characteristics on corporate financing decisions - Evidences from Asian countries

The present study re-examined corporate financing choices in terms of either pecking order or tradeoff predictions and compared the leverage over industries and across countries. Data was drawn from the database of Compustat in nine Asian countries, including Hong Kong, India, Japan, Korea, Malaysia, Philippines, Singapore, Thailand and Taiwan. The financing decisions of firms across Asian countries did not seem to support pecking order at all owing to the highly developing financial markets. Firms had alternative choices to finance from the capital market. The empirical findings had shown that tradeoff prediction of financing decisions was more tenable across Asian countries. Besides, our findings evidence that there were some country level factors had a significant effect on firms’ leverage, such as anti-director right and law enforcement. Key words: Pecking order, tradeoff, capital structure, financing decisions.

The international evidence of pecking order and trade-off predictions

This paper investigates the pecking order and trade-off hypotheses of corporate financing decisions for a sample of 74 countries from 1993 to 2003. Overall, the results confirm predictions shared by the trade-off and pecking order models in that the payout ratio is positively related to profitability and negatively related to investment opportunities, target leverage and volatility. The present study also provides favorable evidence to the pecking order model in that more profitable firms are less levered. Firms with more investments have lower long-term dividend payouts, but dividends do not vary to accommodate short-term variation in investment.

Testing pecking order prediction from the viewpoint of managerial optimism: Some empirical evidence from Taiwan

In this paper we examine the relation between managerial optimism and corporate financing decisions by empirically testing Heaton's [Heaton, J., 2002, Managerial optimism and corporate finance, Financial Management 31, 33–45.] model. Heaton showed that, besides information asymmetry, managerial optimism can also lead to pecking order preference in financing decisions. We test whether pecking order preference performs better when managers are more optimistic. Our measure of managerial optimism is constructed from management earnings forecasts. Managers are more likely to issue forecasts that are higher than the realized earnings when they are optimistic in their assessment of future outcomes. Using listed Taiwanese companies as our sample, we find that optimistic CEOs exhibit a stronger relation between debt issue and financing deficit, when compared with non-optimistic ones. These findings are consistent with the predictions of Heaton's model.

Testing Pecking Order Prediction from the Viewpoint of Managerial Optimism: Some Empirical Evidence from Taiwan

In this paper we examine the relationship between managerial optimism and corporate external financing decisions by empirically testing Heaton's (2002) model. Heaton theoretically shows that, besides traditional information explanations, managerial optimism is also able to lead to managers' pecking order preferences in financing decisions. By using a specification of Shaym-Sunder and Myers (1999), we conduct a comparative test to see whether the pecking order hypothesis performs better when managers are optimistic. That is, the sensitivities of the net debt issues in relation to financing deficits for optimistic managers are larger than those for non-optimistic ones. Using listed Taiwanese companies as our sample, we find that optimistic managers indeed exhibit greater net-debt-issue/financing-deficit sensitivities than do non-optimistic ones. These findings are consistent with the predictions of Heaton's model.

Can the Pecking Order Explain the Costs of Raising Capital?

Using an econometric model to estimate issue costs for new external capital, I provide evidence that challenges the pecking order's predictions. Strongly counter to the pecking order, I find that debt costs often exceed equity costs, especially for firms without access to public debt. While the results suggest information asymmetry effects in the costs of raising external capital, I find no evidence that information asymmetry pushes firms toward a pecking order.

Testing Trade-Off and Pecking Order Predictions about Dividends and Debt

Testing Trade-Off and Pecking Order Predictions about Dividends and Debt

Testing Trade-Off and Pecking Order Predictions About Dividends and Debt

Confirming predictions shared by the trade-off and pecking order models, more profitable firms and firms with fewer investments have higher dividend payouts. Confirming the pecking order model but contradicting the trade-off model, more profitable firms are less levered. Firms with more investments have less market leverage, which is consistent with the trade-off model and a complex pecking order model. Firms with more investments have lower long-term dividend payouts, but dividends do not vary to accommodate shortterm variation in investment. As the pecking order model predicts, short-term variation in investment and earnings is mostly absorbed by debt. The finance literature offers two competing models of financing decisions. In the trade-off model, firms identify their optimal leverage by weighing the costs and benefits of an additional dollar of debt. The benefits of debt include, for example, the tax deductibility of interest and the reduction of free cash flow problems. The costs of debt include potential bankruptcy costs and agency conflicts between stockholders and bondholders. At the leverage optimum, the benefit of the last dollar of debt just offsets the cost. The tradeoff model makes a similar prediction about dividends. Firms maximize value by selecting the dividend payout that equates the costs and benefits of the last dollar of dividends. Myers (1984) develops an alternative theory known as the pecking order model of financing decisions. The pecking order arises if the costs of issuing new securities overwhelm other costs and benefits of dividends and debt. The financing costs that produce pecking order behavior include the transaction costs associated with new issues and the costs that arise because of management’s superior information about the firm’s prospects and the value of its risky securities. Because of these costs, firms finance new investments first with retained earnings, then with safe debt, then with risky debt, and finally, under duress, with equity. As a result, variation in a firm’s leverage

Testing Tradeoff and Pecking Order Predictions About Dividends and Debt

Confirming predictions shared by the tradeoff and pecking order models, more profitable firms and firms with fewer investments have higher dividend payouts. Confirming the pecking order model but contradicting the tradeoff model, more profitable firms are less levered. Firms with more investments have less market leverage, which is consistent with the tradeoff model and a complex pecking order model. Firms with more investments have lower long-term dividend payouts, but dividends do not vary to accommodate short-term variation in investment. As the pecking order model predicts, short-term variation in investment and earnings is mostly absorbed by debt.