Testing Theories of Capital Structure and Estimating the Speed of Adjustment

65 Pages Posted: 18 Oct 2006 Last revised: 29 Jun 2009

See all articles by Rongbing Huang

Rongbing Huang

Kennesaw State University - Michael J. Coles College of Business

Jay R. Ritter

University of Florida - Department of Finance, Insurance and Real Estate

Multiple version iconThere are 2 versions of this paper

Date Written: May 21, 2009

Abstract

This paper examines time series patterns of external financing decisions and shows that publicly traded U.S. firms fund a much larger proportion of their financing deficit with external equity when the cost of equity capital is low. The historical values of the cost of equity capital have long-lasting effects on firms' capital structures through their influence on firms' historical financing decisions. We also introduce a new econometric technique to deal with biases in estimates of the speed of adjustment towards target leverage. We find that firms adjust toward target leverage at a moderate speed, with a half-life of 3.7 years for book leverage, even after controlling for the traditional determinants of capital structure and firm fixed effects.

Keywords: capital structure, market timing, pecking order, static tradeoff, speed of adjustment, long difference

JEL Classification: G32

Suggested Citation

Huang, Rongbing and Ritter, Jay R., Testing Theories of Capital Structure and Estimating the Speed of Adjustment (May 21, 2009). 20th Australasian Finance & Banking Conference 2007 Paper, Available at SSRN: https://ssrn.com/abstract=938564 or http://dx.doi.org/10.2139/ssrn.938564

Rongbing Huang

Kennesaw State University - Michael J. Coles College of Business ( email )

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Kennesaw, GA 30144
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Jay R. Ritter (Contact Author)

University of Florida - Department of Finance, Insurance and Real Estate ( email )

P.O. Box 117168
Gainesville, FL 32611
United States
(352) 846-2837 (Phone)
(352) 392-0301 (Fax)

HOME PAGE: http://https://site.warrington.ufl.edu/ritter

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