ABSTRACT

Purpose – This paper aims to investigate whether information asymmetry could explain capital structures in Korean corporations. According to Myers (1984), firms prefer internal funding to external financing due to the costs associated with information asymmetry. When external financing is necessary, firms prefer to issue debt rather than equity by the same reasoning. Since Shyam-Sunder and Myers (1999), numerous studies continue to debate the validity of the theory. In this paper, we show how the theory depends on assumptions and incorporated variables. We hope our investigation can provide helpful implications regarding capital structure, information asymmetry, and other firm characteristics. Specifically, our empirical results are complementary to the analysis of Son and Lee's (2015), a recent study that examines the pecking order theory prediction for Korean retail firms. Research design, data, and methodology – We test empirical models that are some variants of model used in Shyam-Sunder and Myers (1999). The financial and accounting data are provided by WISEfn for the firms listed on the KOSPI during 1990 to 2013. Bond ratings are supplied by the Korea Investor Service (KIS). We take into account the heterogeneity in debt capacity; a firm's debt capacity is measured by using the method of Lemmon and Zender (2010) based on its bond ratings. Finally, we estimate empirical models suggested by Shyam-Sunder and Myers (1999), Frank and Goyal (2003), and Lemmon and Zender (2010). Results – First, we find that Shyam-Sunder and Myers’ (1999)prediction fails to explain total debt changes of Korean firms. Second, we find a non-monotonic relationship between total debt changes and financial deficits with respect to debt capacity. This contradicts the prediction of Lemmon and Zender (2010) that argues the pecking order theory survives with a monotonically increasing relationship. Third, we estimate a negative correlation coefficient between financial deficit and current debt changes. The result is the complete opposite of the prediction of Lemmon and Zender (2010). Finally, we also confirm the non-monotonic relationship between non-current debt changes and financial deficits with respect to debt capacity. Yet, the slope of coefficient is smaller than that of total debt change case. Indeed, the results are, to some extent, consistent with the prediction of pecking order theory, if we exclude the mid-debt capacity firms. Conclusions – Our empirical results complementary to the analysis of Son and Lee (2015), a recent study focusing on capital structure in Korean retail firms; their paper suggests interesting topics regarding capital structure, information asymmetry, and other firm characteristics in Korean corporations. Contrary to Son and Lee (2015), our results show that total debt changes and current debt changes are inconsistent with the prediction of Shyam-Sunder and Myers (1999). However, similar to Son and Lee (2015), non-current debt changes are consistent with the pecking order prediction, in the case of excluding the mid-level debt capacity firms. This contrast allows us to infer that industry characteristics significantly affect the validity of the pecking order prediction. Further studies are needed to analyze the economics behind this phenomenon, which is beyond the scope of our paper. In addition, the estimation bias potentially matters regarding the firm-level debt capacity calculation. We also reserve this topic for future research.

KEYWORD

Debt Changes, Debt Capacity, Information Asymmetry, Pecking Order Theory, Capital Structure

REFERENCES(8)open

  1. [jounal] Fama, E. F. / 2002 / Testing Trade‐Off and Pecking Order Predictions About Dividends and Debt / Review of Financial Studies 15 (1) : 1 ~ 33

  2. [jounal] Frank, M. Z. / 2003 / Testing the Pecking Order Theory of Capital Structure / Journal of Financial Economics 67 (2) : 217 ~ 248

  3. [jounal] Lemmon, M. L. / 2010 / Debt Capacity and Tests of Capital Structure Theories / Journal of Financial and Quantitative Analysis 45 (5) : 1161 ~ 1187

  4. [jounal] Hussain Muhammad / 2014 / The Impact of Capital Structure on Firm Performance: Evidence from Pakistan / 산경연구논집 5 (2) : 13 ~ 20

  5. [jounal] Shyam-Sunder, L. / 1999 / Testing Static Tradeoff Against Pecking Order Models of Capital Structure / Journal of Financial Economics 51 : 219 ~ 244

  6. [jounal] Muhammed Ayub Siddiqui / 2013 / Exploring the Financing Gap Between Young Entrepreneurs and Venture Capitalists / The East Asian Journal of Business Management 3 (2) : 5 ~ 15

  7. [jounal] 손인성 / 2013 / 부채수용력을 이용한 자본조달순서이론의 검정 / 국제회계연구 48 (48) : 153 ~ 180

  8. [jounal] 이정환 / 2015 / 유통 상장기업들의 부채변화에 관한 연구 / 유통과학연구 13 (9) : 47 ~ 57