Sun Zi's art of corporate finance: how are corporate financial policies derived and determined ?

SzeKee Koh

Research output: ThesisDoctoral Thesis

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Abstract

This dissertation examines how Australian firms determine their capital structure. Using a sample of Australian Initial Public Offering (IPO) firms between the period of 1993 and 2005, the analysis demonstrates that Australian IPO firms are opportunists (consistent with the window of opportunity theory of Taggart, 1977). Australian "hot" market firms tend to take advantage of favourable market conditions to issue more equity during their IPO year than their "cold" market counterparts. Such behaviour appears consistent with a market timing strategy. While Australian firms time the market, there is no evidence that market timing has a long-run impact on firms' capital structure. On the contrary, Australian IPOs also raise debt financing during their year of going public which contradicts with the predictions by the market timing hypothesis. This dissertation finds that the strategy of timing the market is consistent with firms having a long-run target for their capital structure: opportunities to raise cheaper capital are exploited in order to achieve a target debt/equity ratio at the lowest overall cost of capital. Such behaviour is opportunistic but behind it is an overarching strategy to reach a target leverage ratio. Managers take advantage of opportunities to raise external funds but they do not let such opportunities tempt them to stray from their long-run target. The use of IPO sample data may be bias towards finding a presence for market timing behaviour. This dissertation therefore, extends the analysis to examine how firms determine their capital structure using a data set of all listed Australian companies (IPOs included) from 1993 to 2005. Leverage deficit and financial deficit variables are included to further test the explanatory power of competing theories of capital structure. The analysis from the extended tests confirms the findings from the analysis of IPO firms: Australian firms appear to have a leverage target. However, they take advantage of characteristics which facilitate reaching these targets. Issuers issue debt when they are profitable. When firms are profitable and perform well in the market, they will issue both debt and equity. Such opportunistic behaviour is inconsistent with the pecking order theory. This dissertation aims to advance our understanding of the capital structure decisions of Australian listed companies and provide an extension to the important ongoing arguments on the dynamics of financing decisions. This dissertation also provides further insights into the corporate finance literature on the existence of target capital structure. Finally, by understanding how Australian firms determine and derive their financial policies, the results may be useful for corporate financial managers (who may be interested in the optimal timing of issues), institutional and retail investors (who may be interested in return behaviour and avoid investing during the "hot" period as the share prices are likely to be overpriced) and regulators (as the opportunistic behaviour of Australian firms may impinge on the efficiency and operation of the capital markets in Australia).
Original languageEnglish
QualificationDoctor of Philosophy
Publication statusUnpublished - 2008

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