Core Predictors of Debt Specialization: A New Insight to Optimal Capital Structure

Abstract

Debt structure composition is an essential topic of discussion for the management of capital structure decisions. Researchers made extensive efforts to understand the criteria for selecting debts, specifically, to know about the reasons for debt specialization, concealed in identifying its predictors. This question is essential not only for establishing the field of debt structure but also for the financial managers to design corporate financial strategy in a way that leads to attaining an optimal debt structure. Sophisticated financial modeling is applied to identify the core predictors of debt specialization, influencing the strategic choices of optimal debt structure to address this issue. Data were collected from 419 non-financial companies listed at the Karachi Stock Exchange from 2009 to 2015. This study has validated debt specialization by showing that short-term debts maintain their position over the years and remain the most popular type of loan among Pakistani firms. Further, it provides a comprehensive view of the cross-sectional differences among the firms involved in debt specialization by applying a holistic approach. Results show that small, growing, dividend-paying companies, having high expense and risk ratios, followed the debt specialization strategy. This strategy enables firms to reduce their agency conflicts, transaction costs, information asymmetry, risk management and building up their good market reputation. Conclusively, we have identified the gross profit margin, long-term debt to asset ratio, firm size, age, asset tangibility, and long-term industry debt to asset ratio as reliable and core predictors of debt specialization for sustainable business growth.

The Role of Ownership Structure and Board Characteristics in Stock Market Liquidity

“…Firm age helps to evaluate how stock market liquidity varies with the growing age of a firm. Age is calculated as the number of years since the existence of a firm as measured by Khan et al (2021). Due to uncertainty in South Asian markets, volatility of stock returns is the area of concern for investors and portfolio managers.…”

The relationship between the level of debt specialization and financial constraint of Brazilian firms over the time

“…Most studies dealing with capital structure still consider debt structure as a uniform source of resources, but there is an international (Colla et al, 2013(Colla et al, , 2020Khan et al, 2021;Platikanova & Soonawalla, 2020;Rauh & Sufi, 2010) and a (restricted) Brazilian group of theoretical research that recognizes the heterogeneity of debt and seeks to understand the reasons for this fact (Eça & Albanez, 2022;Lucinda & Saito, 2005;Póvoa & Nakamura, 2014). Rauh and Sufi (2010) are the first to identify the debt structure as an important dimension of the general choice of capital structure.…”

“…According to Myers and Rajan (1998), banks have a greater ability to deal with companies in financial distress, as well as the need to take decisions between forcing the company to liquidate or renegotiate its debts. Thus, there is a direct relationship between the company's liquidation propensity (with higher expected bankruptcy costs) and the debt specialization to reduce the renegotiation costs associated with multiple creditors (Colla et al, 2020;Khan et al, 2021), as well as to maximize their liquidation value.…”

“…Finally, in the empirical evidence about firms' debt specialization, the variables age, size, market-to-book, leverage, dividends, and profitability are usually included as its determinants (control variables) (Colla et al, 2013;Khan et al, 2021;Póvoa & Nakamura, 2014). According to Khan et al (2021) and Póvoa and Nakamura (2014), age is considered a significant reputation signal on the market and it can reduce some agency problems, information asymmetries, and financial distress costs (Khan et al, 2021). As a result, these companies can access different types of debt, increasing their diversification.…”

Consistency of Debt Policy: An Intrinsic Role of Business Group Affiliation

“…However, recent studies propagate that leverage, debt maturity, debt granularity, and debt specialization are the key predictors for the debt policy of a firm (Hassens et al, 2016;Khan et al, 2021). These tools are used to set the optimized debt portfolio and also used to understand the evolution of a firm's debt policy over time.…”