DYNAMICS IN THE DETERMINANTS OF CAPITAL STRUCTURE IN THE UK

Alan A. Bevan (London Business School) Jo Danbolt (University of Glasgow)

Working Paper 2000/9

Department of Accounting and Finance University of Glasgow Working Paper Series

The Department should like to acknowledge the help and support of the Wards Trust Fund set up in 1980 after the untimely death of James Cusator Wards.

Published 2000 by the Department of Accounting and Finance, University of Glasgow, Glasgow G12 8LE ISBN 0852 61695 3

DYNAMICS IN THE DETERMINANTS OF CAPITAL STRUCTURE IN THE UK

Alan A. Bevan (London Business School) Jo Danbolt (University of Glasgow)

Address for Correspondence: Alan A Bevan, CIS-ME/Economics, London Business School, Sussex Place, Regents Park, London NW1 4SA, UK. Tel +44 (0)171 262 5050; Fax +44 (0)171 724 8060; e-mail ABevan@lbs.ac.uk Jo Danbolt, Department of Accounting and Finance, University of Glasgow, 65-71 Southpark Avenue, Glasgow G12 8LE, UK. Tel: +44 (0)141 330 6289; Fax: +44 (0)141 330 4442; e-mail: J.Danbolt@accfin.gla.ac.uk

ACKNOWLEDGEMENTS This paper was prepared under the ACE project Financial Flows and Debt Structures in Transition and Market Economies: Bulgaria, Hungary and the United Kingdom. The authors wish to express their gratitude to the European Commission for funding under its Phare/ACE programme, research grant number P96-6081-R. In addition we wish to thank Neil Garrod, Ian Hirst, Robbie Mochrie, Bill Rees, Mark Schaffer, and the participants at the ACE project workshop, Budapest, May 1999, for helpful comments on earlier drafts, and Kirsty MacCallum for library assistance. remaining errors are our own. Any

DYNAMICS IN THE DETERMINANTS OF CAPITAL STRUCTURE IN THE UK

ABSTRACT In this paper we analyse the dynamics in the capital structure for UK companies from 1991 to 1997. We observe significant changes in the relative importance of the various debt elements over time, as well as changes in the relationship between gearing and the level of growth opportunities, company size, profitability and tangibility. Our results suggest that the nature of the credit market in the UK has changed significantly during the 1990s, with large companies using less bank finance, and banks increasingly lending to smaller firms. At the same time, bank debt appears to have become more closely related to corporate profitability and collateral values.

JEL classification:

G32, G3

DYNAMICS IN THE DETERMINANTS OF CAPITAL STRUCTURE IN THE UK

1. INTRODUCTION The corporate finance literature contains a host of papers examining the nature, and determinants, of corporate financial structure. While in general the literature has succeeded in establishing some stylised facts relating the debt-equity decision to a variety of independent variables, it has largely done so within the context of a static snapshot framework. In recognition of this, Michaelas et al. (1999) suggest that, any cross-sectional examination of capital structure at one point in time, will only capture a part of the whole picture. Consequently, the analysis presented in this paper seeks to determine the dynamic nature of capital structure and its determinants for listed UK companies over the period 1991 to 1997. In addition to cross-sectional analyses at two different points in time, we explore the dynamics by means of a fixed effects panel study. This permits us to incorporate interactive time dummy variables, which highlight the significant relational dynamics in our sample.

Harris and Raviv (1991) argue that empirical analysis of capital structure is fraught with difficulty, and The interpretation of results must be tempered by an awareness of the difficulties involved in measuring both leverage and the explanatory variables of interest. Prior research has indicated that both the level of gearing (Rajan and Zingales (1995) and Bevan and Danbolt (1999)) and the determinants of gearing (Van der Wijst and Thurik (1993), Chittenden et al. (1996), Bevan and Danbolt (1999) and Michaelas et al. (1999)) vary significantly depending on the definition of gearing adopted. In this paper, we therefore base the analysis on the various components of debt, rather than on more aggregate gearing measures. This rationale is lent support by the fact that while the overall level of indebtedness of our firms sampled has remained fairly stable over time, the relative importance of the various components of debt have changed significantly. 4

As argued by Titman and Wessels (1988) and Harris and Raviv (1991), the choice of explanatory variables is also fraught with difficulty. In this study, we concentrate on four key variables Based on cross-sectional

identified in the prior literature (e.g., Rajan and Zingales (1995)).

regressions for 1991, we find the level of the various debt components (all scaled by the book value of total assets) to be significantly related to: company size (with large companies tending to have higher levels of debt, but less short term bank borrowing, than smaller companies); the level of profitability (where we find a significant negative correlation between profitability and the level of debt); the proportion of fixed to total assets (tangibility) of the firm (positively correlated to long term, but negatively correlated to short term forms of debt); and the level of growth opportunities (where the market-to-book variable is found to be positively correlated with certain debt elements).

Analysis reveals, however, that the level of some of the cross-sectional regression coefficients change significantly over time. In particular, our cross-sectional results based on data for 1997 illustrate the negative correlation between debt and profitability, while still highly significant, is much weaker than for 1991. Furthermore, the correlation between tangibility (which proxies for collateral value) and borrowing is more positive for long term forms of debt and less negative for short term debt elements. In light of these apparent changes, we utilise our panel dataset in order to obtain a more thorough understanding of the dynamic nature of capital structure and its determinants for UK companies. The use of panel data not only improves sample size relative to cross-sectional analysis, but is also better able to capture effects than are either cross-sectional or time-series data alone (Hsiao (1986), Baltagi (1995) and Michaelas et al. (1999)). In addition, as the panel analysis incorporates the influence of unobserved (time-invariant) firm effects, the impact of any model misspecification is reduced (Himmelberg et al. (1999)). By incorporating yearly dummy variables which interact with each of our dependent variables, we are able to clarify the dynamic relationships which underlie our study. Our results illustrate that there have been

significant changes in the influence of each of our dependent variables upon our various debt measures, and we advance some tentative explanations for these movements.

The remainder of the paper is organised as follows: Section 2 presents the theoretical considerations as to why the cross-sectional variation in the level of gearing may be related to firm-specific variables, as well as a discussion of the key empirical evidence. The hypotheses tested are also specified. Section 3 then provides a detailed description of our dataset, and a discussion of the dependent and independent variables. In section 4 we outline the regression methodology applied and discuss the cross-sectional regression results. In section 5 we extend the analysis of the interaction between the cross-sectional and time-series elements of our dataset by means of a panel study. Finally, section 6 summarises and concludes.

2. THE THEORY AND PRACTICE OF CAPITAL STRUCTURE AND ITS DETERMINANTS

In their cross-sectional analysis of the determinants of the capital structure for companies in the G-7 economies, Rajan and Zingales (1995) examine the extent to which, at the level of the individual firm, gearing may be explained by four key factors, namely, the level of growth opportunities (proxied for by the ratio of the market value to the book value of total assets), size (measured as the natural logarithm of sales), profitability (earnings before interest, tax and depreciation to total assets), and collateral value (tangibility, proxied by the ratio of fixed to total assets). Their crosssectional regressions are undertaken for one aggregate gearing measure at one point in time. Hence in this paper we build on their seminal work by extending the analysis to the sub-components of debt for a large sample of UK companies, and study the time-series dynamics of capital structure and its determinants.

2.1 Growth Opportunities 6

Myers (1977) argues that the potential for shareholders to undertake actions contrary to the interests of debtholders (e.g., underinvestment or diversion of resources) is most severe for companies whose value is predominately accounted for by future investment opportunities. Lenders may thus impose restrictions on lending to such companies. Growth companies may also be reluctant to take on debt, if high interest rates or restrictive covenants impose constraints on their future manoeuvrability. Consistent with these predictions, Titman and Wessels (1988), Chung (1993), Barclay et al. (1995) and Rajan and Zingales (1995) all find a negative relationship between growth opportunities and the level of gearing.

However, as discussed by Myers (1977), Barnea et al, (1981), Stohs and Mauer (1996) and Michaelas et al. (1999), the relationship between growth opportunities and gearing may be different for short and long term forms of debt. Michaelas et al. argue that the agency problem is mitigated if the firm issues short term rather than long-term debt. Nonetheless, while they find a positive correlation between the level of growth opportunities and short term debt, they also find long term debt (and total debt) to be positively related to the market-to-book (MTB) variable. Chittenden et al. (1996) also obtain a positive coefficient for the MTB variable, although not statistically significant, while Stohs and Mauer (1996) find only limited support for the theory that debt maturity is inversely related to the level of growth opportunities. Thus, the evidence on the impact of growth opportunities on the cross-sectional variation in corporate gearing is rather mixed. However, based on the theoretical considerations and the majority of the prior empirical evidence, we make the following hypotheses:

H1:

The levels of long term debt components are negatively related to the level of growth opportunities.

H2:

The levels of short term debt components are positively related to the level of growth opportunities.

2.2 Size Rajan and Zingales (1995) argue that Larger firms tend to be more diversified and fail less often, so size may be an inverse proxy for the probability of bankruptcy. Alternatively, Smith and Warner (1979) and Michaelas et al. (1999) argue that the agency conflict between shareholders and lenders may be particularly severe for small companies. Lenders can manage the risk of lending to small companies by restricting the length of maturity offered. Small companies can therefore be expected to have less long term debt but possibly more short term debt than larger companies (Barnea et al. (1980), Whited (1982), and Stohs and Mauer (1996)).

Once again, however, the empirical evidence is inconclusive. Crutchley and Hanson (1989) and Rajan and Zingales (1995) find significant positive correlation between company size and gearing, while Stohs and Mauer (1996) and Michaelas et al. (1999) find debt maturity to be positively correlated with company size. However, Remmers et al. (1974) find no size effect, Kester (1986) uncovers an insignificant negative effect, and Barclay et al. (1995) find the correlation between size and gearing reverses polarity, dependent upon whether the estimation is a pooled OLS, or a fixedeffects panel regression.

Despite the inconsistencies in the empirical evidence, we hypothesise:

H3: H4:

The levels of long term debt components are positively related to company size. The levels of short term debt components are negatively related to company size.

2.3 Profitability Modigliani and Miller (1963) argue that, due to the tax deductibility of interest payments, companies may prefer debt to equity. This would suggest that highly profitable firms would choose

to have high levels of debt in order to obtain attractive tax shields. However, DeAngelo and Masulis (1980) argue that interest tax shields may be unimportant to companies with other tax shields, such as depreciation1.

Alternatively, Myers (1984) and Myers and Majluf (1984) predict that, as a result of asymmetric information, companies will prefer internal to external capital sources. Thus a pecking-order is established, whereby companies with high levels of profits tend to finance investments with retained earnings rather than by the raising of debt finance. Consistent with this theory, Toy et al. (1974), Kester (1986), Titman and Wessels (1988), Rajan and Zingales (1995) and Michaelas et al. (1999) all find gearing to be negatively related to the level of profitability. Consequently, we hypothesise:

H5:

The level of gearing is negatively related to the level of profitability.

2.4 Tangibility Due to the conflict of interest between debt providers and shareholders (Jensen and Mekling (1976)), lenders face risk of adverse selection and moral hazard. Consequently, lenders may

demand security, and collateral value (proxied by the ratio of fixed to total assets) may be a major determinant of the level of debt finance available to companies (Scott (1977), Stiglitz and Weiss (1981), Williamson (1988) and Harris and Raviv (1990)).

While Bradley et al., Titman and Wessels, and Rajan and Zingales find a significant positive relationship between tangibility and gearing, Chittenden et al. find the relationship between tangibility and gearing to depend on the measure of debt applied. While they find a positive correlation between tangibility and long term forms of debt, a negative correlation is observed for short term debt elements. Similarly, Stohs and Mauer (1996) find debt maturity to be highly

correlated with asset maturity, providing strong support for the maturity matching principle (Brealey and Myers (1996)). We hypothesise:

H6:

The levels of long term debt components are positively related to the level of tangibility.

H7:

The levels of short term debt components are negatively related to the level of tangibility.

2.5 Time-Series Patterns in Capital Structure Determinants One of the few papers to study the time-series patterns in gearing, is Michaelas et al. (1999), who analyse the capital structure choice of UK small and medium sized enterprises from 1988 to 1995. For these companies, Michaelas et al. find average gearing ratios to change significantly over time. In particular, Average total debt and especially short term debt ratios in the sample firms appear to be decreasing during economic boom periods and increasing during periods of economic recession, [while] the opposite is true for long term debt. While Michaelas et al. make interesting

observations regarding the time series patterns in gearing levels, they do not analyse whether the relationship between gearing and company characteristics also change over time. Indeed, to the best of our knowledge, no work prior to this has analysed the time-series dynamics in the determinants of the capital structure choice of listed UK companies.

3. DATA AND DESCRIPTIVE STATISTICS

3.1 Data Our dataset is dervied from Datastream and contains balance sheet and profit and loss account information for all listed non-financial UK companies over the time period from 1991 to 1997. In

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order to avoid survivorship bias, companies are included in the analysis even if data is not available for every year. Consequently, the number of observations in each year vary, with a total of 6,001 observations on 1,054 companies2. While our assembled data was relatively clean, some outliers were identified. These were eliminated by winsorising (Tuckey (1962)) all dependent and

independent variables at the 2% level.

3.2 Gearing Measures Previous studies have suggested that the level of gearing depends significantly on the definition of gearing applied. In this study, in order to obtain a fuller understanding of the time-series patterns of gearing and its determinants in the UK, we therefore concentrate on a variety of long and short-term debt components rather than on the more aggregate gearing measures. All gearing measures are scaled by the book value of total assets and their precise definitions are presented in appendix 1.

3.3 Independent Variables As discussed above, the choice of appropriate explanatory variables is potentially controversial (Titman and Wessels (1988) and Harris and Raviv (1991)). However, following Rajan and Zingales (1995), we adopt four key independent variables, the market-to-book ratio (as a proxy for growth opportunities), the natural logarithm of sales, profitability, and the ratio of fixed to total assets (tangibility). Precise definitions are presented in appendix 2.

In an attempt to isolate the analysis from the potential reverse causality which exists between the independent and dependent variables, most empirical studies of capital structure lag their independent variables, which are typically a smoothed series (see e.g., Titman and Wessels (1988) and Rajan and Zingales (1995)). Following Titman and Wessels, we adopt three year averages of our right hand side variables, thus regressing the 1991 and 1997 debt measures against the average

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market-to-book, logsales, profitability and tangibility for the period 1988-1990 and 1994-1996 respectively3.

3.4 Descriptive Statistics Summary statistics for the various debt elements are contained in Table 1. From this table it can be seen that the book value of total liabilities on average accounted for 49.41% of the book value of total assets in 1991. The vast majority of the liabilities are of a short term nature, with only 17.36% of total liabilities (8.58% of total assets) accounted for by borrowing repayable in more than one year. From Table 1, it can further be seen that trade credit and equivalent make up a significant proportion of company financing. ============== Table 1 about here ==============

Over the period from 1991 to 1997, the overall level of indebtedness of the average UK company has not changed significantly. However, there have been several significant changes in the relative importance of the various components of debt. This highlights the limitations of studies of capital structure based on more aggregate gearing measures. Over the period of analysis, there has been a statistically significant increase in the average level of long term debt, from 8.58% of total assets, to 9.72%. This increase was predominately accounted for by the (marginally significant) increase in the level of securitised debt, although a small increase in long term bank borrowing was also observed.

However, the increase in long term forms of debt were more than offset by a general fall in the level of current liabilities, leading to a very small decline in the overall level of indebtedness. The overall fall in current liabilities of 1.64 percentage points is driven by a highly significant decline in

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the average level of short term bank borrowing, from 8.49% of total assets to 5.34%. This is partly offset by a significant increase in the reliance on trade credit and other current liabilities.

Summary statistics for the explanatory variables are provided in Table 2.

On average, net

(depreciated) fixed assets accounted for 35% of total assets in 1991 (based on the average for 19881990), a level not much different in 1997. Over the time period from the late 1980s to the mid 1990s, the average level of profitability fell from 16.02% to 13.08%. The mean level of turnover (expressed in 1996 values, adjusting nominal values by the GDP deflator) rose significantly from a mean of 63m for the time period 1988-1990 to 103m for 1994-1996. The market-to-book (MTB) value at 1.4618 for 1991 indicates that book values do not adequately reflect the value of UK companies. If book values provide fair estimates of replacement values or the value of assets in place, a market-to-book value substantially in excess of unity indicates that UK companies on average have valuable investment opportunities4. By the mid 1990s, the growth prospects of UK companies had improved, with the mean MTB value for 1997 (based on 1994-1996) of 1.5747. ============== Table 2 about here ==============

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4. CROSS-SECTIONAL REGRESSIONS

4.1 Model Specification We estimate the relationship between market-to-book, logsales, profitability and tangibility against the individual debt components using ordinary least squares (OLS) regressions5. The estimated regression model is specified in Equation 1:

Gearingi,t =

1 + 2Market-to-Booki,t-3 + 3Logsalei,t-3 + 4Profitabilityi,t-3 + 5Tangibilityi,t-3 + i,t (1)

where i refers to the individual firms, t to the time period of the gearing measure (measured at the accounting year end), and t-3 to the average for the previous three years. The results of our crosssectional analysis of the level of gearing of UK companies in 1991 and 1997 are presented in tables 3 and 4 below6. =================== Tables 3 and 4 about here ===================

4.2 Cross-sectional analysis of gearing levels 4.2.1 Market-to-Book Contrary to expectations, we find a positive and highly significant relationship between long term debt and the level of growth opportunities in both 1991 and 1997. We therefore reject Hypothesis 1. It is worth noting, however, the 1997 coefficient is considerably smaller than that of 1991, suggesting a diminished impact of the level of the MTB ratio over time. The reduction of the coefficient is significant at the 5 percent level, under a two sample difference in means t-test. We return to this in section 5.

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In line with our predictions, we find short term forms of debt to be positively related to the level of growth opportunities in 1991, supporting Hypothesis 2. However, this hypothesis is based on the prediction that companies with growth opportunities will have difficulty obtaining long term debt, thus compensating with short term forms of debt. The finding of a positive relationship between MTB and all forms of debt (except an insignificant negative relationship for short term securitised debt) is thus rather surprising, although in agreement with Michaelas et al (1999).

The results of our analysis with 1997 data provide less clear support for Hypothesis 2. The MTB ratio remains positively correlated with total current liabilities and total trade credit and equivalent, however the significance of the correlation is diminished. However, our 1997 results do provide some limited support for the theory that debt maturity is negatively related to the level of growth opportunities, as we find the MTB ratio to be negatively correlated with trade credit in 1997 a complete reversal of sign from our 1991 result. This dramatic reduction of the coefficient is highly significant. Two sample t-tests of changes in regression coefficients also indicate that the marketto-book coefficients are significantly smaller in 1997 than 1991 when regressed against total current liabilities, and total trade credit and equivalent.

4.2.2 Size We find a significant positive relationship between company size and long term debt, in support of Hypothesis 3. The regression coefficient is also significantly positive for total liabilities. The relationship appears to be somewhat stronger in 1997 than in 1991, although the increase in the size of the coefficient is not significant.

Analysis of individual debt components in 1991, however, gives a fuller picture of the relationship between company size and gearing. We find a significant negative relationship between company

15

size and short term bank borrowing. Thus, small companies which may have difficulty in obtaining long term debt appear to compensate by using more short term bank borrowing. However, the predicted negative correlation does not hold for other forms of borrowing. We find small companies to make limited use of short term securitised debt, which seems reasonable given the importance of credit rating something often missing for small companies for such debt. Large companies are also found to make more heavy use of trade credit than do smaller companies.

Comparison with the results for 1997 in Table 4 illustrates that our findings are robust across our sample horizon. The two exceptions to this are the weakening link between company size and long term bank borrowing possibly indicating that smaller companies have obtained better access to this form of debt and the strengthening relationship between size and long term securitised debt.

4.2.3 Profitability In 1991 the regression coefficients for the effect of profitability on corporate gearing are systematically negative and highly statistically significant. Our results are thus consistent with the pecking-order theory, but contradict the tax shield hypothesis. Profitability generally has the

strongest impact on the cross-sectional variation in UK gearing levels. There is thus strong support for Hypothesis 5.

At the aggregate level we observe a significant reduction in the absolute size of the profitability coefficient associated with total liabilities, indicating that the level of profitability has a significantly smaller impact on the cross-sectional variation in liabilities in 1997 than in 1991. However, although all profitability coefficients have increased (diminished in absolute size) between the two sample periods, the only significant changes were in those coefficients obtained from regressions against short term debt forms. Finally we note that the positive coefficient for the category of other current liabilities is anomalous, but may be explained by the fact that this category

16

includes unpaid taxes and dividends, which can be expected to be positively correlated to the level of profitability.

4.2.4 Tangibility At the aggregate level, companies with low fixed asset ratios tend to have higher debt ratios than other firms. This may appear to be contrary to expectations based on agency theory, where lenders demand security for their debt. However, as can be clearly seen in Table 3, the overall tangibility coefficients mask significant differences between long term and short term debt, thus highlighting the potential danger of basing the analysis of capital structure determinants on overly aggregate measures of gearing. Long term forms of debt are found to be significantly positively related to the level of tangibility. The 1991 results thus strongly support Hypothesis 6. However, as predicted based on the maturity matching principle, we find the sign of the regression coefficients to reverse for short term forms of debt. The empirical evidence thus provides strong support for Hypothesis 7.

This general pattern of results is consistent for 1997, where tangibility continues to be positively correlated with long term debt forms and negatively correlated with short term debt forms. However, with the exception of short term borrowing, we find that the absolute size of the coefficients has increased between our two sample periods. The increase in the correlation between tangibility and long term debt over our sample horizon is significant at the 1 percent level. Thus long term borrowing has become more closely related to collateral value, possibly indicating that lenders are demanding greater security in the late 1990s than they did at the start of the decade.

Interestingly, we also observe a significant change in the tangibility coefficient for short-term bank borrowing. However, in this instance, the change entails that tangibility is found to no longer be a significant determinant of short term bank debt in 1997. We examine the dynamics of this change, and those previously highlighted, in section 5 below.

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5. TIME DYNAMICS IN CAPITAL STRUCTURE DETERMINANTS

When comparing the regression coefficients of the cross-sectional analyses for 1991 and 1997, we observe the level of several of the coefficients appear to have changed significantly. In this section we explore these casual observations more fully, by utilising the panel nature of our dataset. In doing so, we are able to introduce annual dummy variables and to interact these with our independent variables in order to obtain a better understanding of the dynamics in the capital structure determinants. Our estimations are conducted as fixed effects panel regressions of each of our previously defined independent variables against our various debt components, and we present the results in table 5 below. ============= Table 5 about here ============= Table 5 inverts the previous presentation of the cross-sectional results by listing our dependent debt components in columns, with the independent variables as rows. The initial row associated with each independent variable presents the level of the regression coefficient from our analysis, while the subsequent rows labelled 92 to 97 report the coefficient attributed to the interactive dummy variable for that year. Hence each of the dummy variable coefficients may be interpreted as the deviation in that year from the 1991 level.

It is firstly notable that the results in table 5 illustrate the regression coefficient levels for our 1991 base differ from those in our cross-sectional study reported previously. This is not surprising given the different error structure assumptions in fixed effects panel regressions as opposed to OLS. Indeed it is worth noting that the same panel regressions implemented as random effects models

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produced levels coefficients more akin to those of the OLS results reported previously. Nonetheless, in each case the Hausmann test did not permit rejection of a systematic difference in the coefficients between the fixed and random effects models at the 2 percent level or less, and hence we maintain use of the fixed effects model. In any event, this element of our study focuses upon the change in the influence of the various capital structure determinants over time, and we found the size of the interaction coefficients to be very similar regardless of the specification of the model. For comparative purposes, we discuss the results associated with each independent variable in turn, as before.

5.1 Market-to-Book As discussed above, our cross-sectional results suggest that although total debt and, more specifically, total long term debt is positively correlated with market-to-book, the strength of their correlation has diminished over time. Additionally, we find that companies with high levels of growth opportunities appear to be increasingly moving away from short term bank debt and other forms of short term borrowing, such as trade credit. This pattern is largely reproduced in our interactive dummy coefficients in table 5.

The negative and highly significant interactive dummy coefficients associated with total liabilities indicate that the strength of the correlation declined from 1991, with the peak of this decline occurring in 1996. The results are less supportive in the case of long term debt, although there is some evidence of a significant decline in the coefficient associated with long term bank debt in 1993, 1995 and 1996.

The strongest evidence of a decline in the positive correlation between growth opportunities and our debt elements appears in our analysis of short term debt components. Our interactive dummy variables are negative and highly significant in the total current liabilities regression; a result that

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appears to be largely driven by the monotonically increasing negative interactive coefficient associated with trade credit and equivalent and trade credit itself, together with the highly significant, negative interactive coefficients associated with short term bank debt.

One possible explanation for the decline in the MTB regression coefficients over time, relate to the increase in the average level of the MTB ratio during the 1990s, as detailed in Table 2. Although under such an increase one could expect the associated regression coefficient to fall in value, even if gearing remains stable over time, this would not explain the change in the sign of the MTB coefficient over time. Instead, such a result suggests that the change in the relationship between gearing and the level of growth opportunities is more fundamental.

It is possible that the apparent shift from debt towards more equity finance for companies with high levels of growth opportunities is associated with the growing demand for shares in high technology and internet shares. It may be that such companies have taken advantage of their improved access to equity finance, thus reducing their average level of indebtedness.

5.2 Size Tables 3 and 4 illustrated that as a general rule, large companies tend to use more long term debt than smaller firms. Nonetheless, our cross-sectional results suggest that the correlation between size and long term bank debt may have weakened in 1997, while that between size and long term securitised debt may have strengthened. The results presented in table 5 provides some support for both of these observations. Our long term bank debt regression returns negative and highly significant time interactions in 1993 to 1995 and 1997. This may suggest that banks have become more willing to lend long term to small companies, possibly to compensate for loss of business as large companies increasingly moved from bank debt to securitisation. This latter notion is lent support by the significant ratcheting of the size coefficient in our long term securitised debt

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regressions in 1993 and 1995 to 1997. Hence it would appear that the general increase in the use of long term securitised debt (as reported in Table 1) is predominately attributable to large companies.

Additionally, the results of table 5 suggest that, over our sample period, there was a decline in the strength of the correlation between size and trade credit. Moreover, there is some evidence to suggest that the previously established negative correlation between short term bank debt and size diminished in the final two periods of our analysis.

5.3 Profitability Our previous results all illustrate that the most significant shift in regression coefficients during the 1990s relate to the impact of profitability on capital structure. Tables 3 and 4 show that virtually all forms of gearing are negatively correlated with the level of profitability, consistent with the pecking order theory. Comparison of the coefficients in tables 3 and 4 illustrated that while the strength of this correlation has diminished in most cases between the two periods, the decline is more notable in association with short term debt elements.

Our fixed effects panel study results in table 5 provide evidence to suggest that at the aggregate level the negative correlations are weakening over time, such that by 1997 profitable firms appear to use more debt than do less profitable firms. The interactive dummy coefficients illustrate that this appears to be driven by a monotonic positive shift in the correlation between profitability and short term bank debt throughout the sample period.

While profitable firms may have better access to debt finance than less profitable firms, the need for debt finance may possibly be lower for highly profitable firms if retained earnings are sufficient to fund new investments. The observed relationship between debt and earnings may thus reflect this supply and demand interaction. The significant positive time interaction for short term bank

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borrowing suggests that supply constraints may have become increasingly pronounced during the mid to late 1990s. Banks thus appear to have become more cautious in their lending possibly as a result of the difficulties caused by bad debts during the early 1990s with bank debt becoming increasingly dependent upon adequate earnings capacity of the firm.

However, the demand for debt may also have changed as companies are increasing adopting a shareholder focus. With managers increasingly holding shares and/or options in their firms, they may be more willing to take on additional debt if this is likely to increase share prices, e.g., due to the tax deductibility of interest payments or the positive information effects of increased gearing.

5.4 Tangibility The cross-sectional analysis found that tangibility tends to be positively correlated with long term forms of debt, and negatively correlated with short term debt forms in our sample. Additionally, comparison of the results of tables 3 and 4 suggest that the strength of the positive correlation with long term debt has increased between 1991 and 1997. The results of our panel study show that this dynamic result emerges from 1995, when the interactive time dummy in the total long term debt regression becomes positive and significant. Closer examination at a more disaggregated level reveals that the dynamic movement in long term debt is driven by the relation between tangibility and long term bank debt. Hence, in contrast to the above finding that banks appear to be requiring greater evidence of profitability before releasing short term debt, this result implies that banks have required increasing amounts of collateral to secure long term debt finance over our sample period.

By contrast the results of our short term debt measure regressions illustrate a remarkable stability over the sample period. Only the relationship between trade credit and tangibility appears to show any dynamic pattern, with a significant dip in the coefficient in 1992 to 1995. We find no evidence of a significant dynamic shift in the correlation between tangibility and short term bank debt.

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It may be that these results illustrate that events have led to a rationalisation of debt finance, with maturity matching strengthening over the sample period: previously we found that the relationship between short term bank debt and profitability has increased over our sample period, while the analysis in this section suggested that more recent years have witnessed a strong positive shift in the relationship between tangibility and long term debt. Unfortunately our analysis does not permit us to separate the demand and supply sides of the debt decision; hence we are unable to distinguish whether this is maturity matching on the part of the enterprises in our sample, or whether banks are becoming more cautious and rationally requiring more collateral generally, but that collateral should be more liquid the more short term the debt.

6. SUMMARY AND CONCLUSIONS

Our analysis in this paper has focused upon the dynamics in the determinants of capital structure in the UK between 1991 and 1997. We conducted our analysis using dependent variables based upon individual components of debt structure rather than gearing measures, as the former provides a richer picture of the capital structure decisions of the firms in our sample, whilst preventing the potential bias which may emerge as a result of choice of gearing ratio.

Our analysis was firstly conducted as two cross-sectional snapshot regressions for 1991 and 1997. Subsequently, we estimated a fixed effects panel model with interactive annual dummies, to allow us to more carefully analyse the significance of the dynamic relations in our data. The results of our analysis reveal that companies with high levels of growth opportunities have tended to utilise more long and short term debt. However, it appears that such companies have shifted from debt towards equity finance over our sample horizon, with a particularly strong move out of short debt components, most notably short term bank debt and trade credit. Although our analysis does not 23

allow us to emphatically conclude reasons for these patterns, we have suggested that this may be due to the growth in demand for equity of companies with large growth opportunities such as those in the areas of high technology and the internet.

Additionally, while our results illustrate that larger companies have traditionally been more reliant on long term debt and smaller companies on short term debt, they also suggest that larger companies have moved from long term bank debt and have become increasingly reliant upon long term securitised debt since 1995. Consequently it would appear that in order to maintain their customer base, banks have become more willing to lend long term to smaller companies.

Nonetheless, this does not imply that banks have engaged in less cautious lending practices. Although in a reduced form analysis such as ours it is not possible to separate out the demand and supply elements, we find that the previously negative correlation between profitability and debt (the pecking order theory) has in many cases become positive by the final period of our sample hence more profitable firms appear to be using more debt. Moreover, our results have illustrated a monotonic increase in the correlation between short term bank debt and profitability throughout the horizon of our study. This change has reduced the previous distinction between the strength of the correlation between profitability and short and long term debt forms. We suggest that this may illustrate that banks have tended to become more cautious when providing short term debt finance, by examining the earnings capacity of firms rather than simply relying upon secured collateral.

By contrast, our results reveal that long term debt has become increasingly positively correlated with tangibility from 1995, a result which appears to be driven by the positive and significant increase in the coefficient associated with long term bank borrowing from 1995 until 1997.

24

Hence we would suggest that the dynamic results reveal a distinct change in the underlying relationships in the debt-equity decision over our sample period. Firstly we have found that our sample period has seen a general increase in collateral requirements, which may be a result of additional factors that are external to this analysis such as the emergence of bad debt in the banking sector in the 1990s. Underlying this, we found that while large firms have increasingly utilised equity finance, banks have moved to lending more long term debt to smaller firms. Given the standard assumption that larger firms tend to have a lower associated risk of bankruptcy, it thus seems reasonable to find that banks have required these loans to be secured with more collateral than previously.

Additionally, our results suggest that banks may also have changed their behaviour over our sample period, by increasingly engaging in maturity matching of their loans. It appears that short term bank debt has become increasingly associated with the earnings profile of firms. Hence, while banks have become increasingly cautious and have required more security when extending loan finance, security has been required to be more liquid the more short term the debt.

Our results thus suggest that the nature of the credit market in the UK has changed significantly over the course of our sample horizon. Unfortunately, although we have advanced several interpretations of the results, we remain conscious that these interpretations should be treated with caution given the reduced form nature of our analysis and the reliance upon only four determining independent variables. Nonetheless, in doing so we raise several future avenues of research which may hopefully allow more concrete conclusions to be drawn, such as utilising alternative specifications of our matrix of independent variables, or by conducting event-study analysis.

25

BIBLIOGRAPHY Baltagi, B.H. (1995) Econometric Analysis of Panel Data, Wiley. Barclay, M.J. and Smith, C.W. (1999) The Capital Structure Puzzle: Another Look at the Evidence, Journal of Applied Corporate Finance, 12(1), Spring, 8-20. Barclay, M.J., Smith C.W. and Watts, R.L. (1995) The Determinants of Corporate Leverage and Dividend Policies, Journal of Applied Corporate Finance, 7(4), 4-19. Barnea, A., Haugen, R.A. and Senbet, L.W. (1980) A Rationale for Debt Maturity Structure and Call Provisions in the Agency Theoretic Framework, Journal of Finance, 35(December), 1223-1243. Barnea, A., Haugen, R.A. and Senbet, L.W. (1981) An Equilibrium Analysis of Debt Financing Under Costly Tax Arbitrage and Agency Problems, Journal of Finance, 36(3), 569-581. Bevan, A.A. and Danbolt, J. (1999) Capital Structure and its Determinants in the United Kingdom A Decompositional Analysis, Mimeo, Heriot-Watt University and University of Glasgow. Bradley, M., Jarrell, G. and Kim, E.H. (1984) On the Existence of and Optimal Capital Structure: Theory and Evidence, Journal of Finance, 39, 857-878. Brealey, R.A. and Myers, S.C. (1996) Principles of Corporate Finance, 5th international edition, McGraw-Hill. Chittenden, F., Hall, G. and Hutchinson, P. (1996) Small Firm Growth, Access to Capital Markets and Financial Structure: Review of Issues and an Empirical Investigation, Small Business Economics, 8, 59-67. Cook, R.D. (1977) Determination of Influential Observations in Linear Regression, Technometrics, 19(February), 15-18. Crutchley, C.E. and Hanson, R.S. (1989) A Test of the Agency Theory of Managerial Ownership, Corporate Leverage and Corporate Control, Financial Management, 18(4), 36-46. DeAngelo, H. and Masulis, R. (1980) Optimal Capital Structure under Corporate and Personal Taxation, Journal of Financial Economics, 8(1), 3-29. Harris, M. and Raviv, A. (1990) Capital Structure and the Informational Role of Debt, Journal of Finance, 45(2), 321-349. Harris, M. and Raviv, A. (1991) The Theory of Capital Structure, Journal of Finance, 46(1), 297355. Himmelberg, C.P., Hubbard, R.G. and Palia, D. (1999) Understanding the Determinants of Managerial Ownership and the Link Between Ownership and Performance, Journal of Financial Economics, 53, 353-384. Hsiao, C. (1986) Analysis of Panel Data, Cambridge University Press. Jensen, M. and Meckling, W. (1976) Theory of the Firm: Managerial Behaviour, Agency Costs and Capital Structure, Journal of Financial Economics, 3, 305-360. Kester, C.W. (1986) Capital and Ownership Structure: A Comparison of United States and Japanese manufacturing Corporations, Financial Management, 5-16. Mtys, L. and Sevestre, P. (eds) (1992) The Econometrics of Panel Data, Kluwer Academic Publishers, Netherlands Michaelas, N., Chittenden, F. and Poutziouris, P. (1999) Financial Policy and Capital Structure Choice in U.K. SMEs: Empirical Evidence from Company Panel Data, Small Business Economics, 12, 113-130. Modigliani, F. and Miller, M.H. (1958) The Cost of Capital, Corporate Finance, and the Theory of Investment, American Economic Review, 48, 261-297. Modigliani, F. and Miller, M.H. (1963) Corporate Income Taxes and the Cost of Capital A Correction, American Economic Review, 53(3), 433-443. Myers, S.C. (1977) Determinants of Corporate Borrowing, Journal of Financial Economics, 5, 147175. Myers, S.C. (1984) The Capital Structure Puzzle, Journal of Finance, 34(3), 575-592.

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Myers, S.C. and Majluf, N.S. (1984) Corporate Financing and Investment Decisions When Firms Have Information That Investors Do Not Have, Journal of Financial Economics, 13, 187221. Rajan, R.G. and Zingales, L. (1995) What Do We Know about Capital Structure? Some Evidence from International Data, Journal of Finance, 50(5), 1421-60. Remmers, L. Stonehill, A. Wright, R. and Beekhuisen, T. (1974) Industry and Size as Debt Ratio Determinants in Manufacturing Internationally, Financial Management, Summer, 24-32. Scott, J. (1977) Bankruptcy, Secured Debt, and Optimal Capital Structure, Journal of Finance, 32(1), 1-19. Smith, C.W.Jr. and Warner, J.B. (1979) On Financial Contracting: An Analysis of Bond Covenants, Journal of Financial Economics, 7(June), 117-116. Stationery Office, The (1998) Economic Trends Annual Supplement, London Stiglitz, J.E. and Weiss, A. (1981) Credit Rationing in Markets with Imperfect Information, American Economic Review, 71, 393-410. Stohs, M.H. and Mauer, D.C. (1996) The Determinants of Corporate Debt Maturity Structure, Journal of Business, 69(3), 279-312. Titman, S. and Wessels, R. (1988) The Determinants of Capital Structure Choice, Journal of Finance, 43(1), 1-19. Toy, N., Stonehill, A., Remmers, L., Wright, R. and Beekhuisen, T. (1974) A Comparative International Study of Growth, Profitability and Risk as Determinants of Corporate Debt Ratios in the Manufacturing Sector, Journal of Financial and Quantitative Analysis, 875886. Tukey, J.W. (1962) The Future of Data Analysis, Annals of Mathematical Statistics, 33, 1-67. Van der Wijst, N. and Thurik, R. (1993) Determinants of Small Firm Debt Ratios: An Analysis of Retail Panel Data, Small Business Economics, 5, 55-65. White, H. (1980) A Heteroskedasticity-Consistent Covariance Matrix Estimator and a Direct Test for Heteroskedasticity, Econometrica, 48(May), 817-838. Whited, T.M. (1992) Debt, Liquidity Constraints, and Corporate Investment: Evidence From Panel Data, Journal of Finance, 47(September), 1425-1460. Williamson, O., (1988) Corporate Finance and Corporate Governance, Journal of Finance, 43(3), 567-591.

27

Appendix 1: Dependent Variable Definitions

TLIABS

Total liabilities, which is defined as the sum of total long term debt (TLTD) and total current liabilities (TCL);

TLTD

Total long term debt (repayable in more than one year), consisting of long term bank borrowing (BBGT1) and long term securitised debt (LTSD);

BBGT1 LTSD

Bank borrowing repayable in more than one year; Long term securitised debt (non-bank borrowing repayable in more than one year);

TCL

Total current liabilities (repayable in less than one year), consisting of trade credit and equivalent (TTCE) and borrowing repayable in less than one year (BRLT1);

TTCE

Total trade credit and equivalent, consisting of trade credit (TC) and other current liabilities (OCL);

TC OCL BRLT1

Trade credit; Other current liabilities; Borrowing repayable in less than one year, consisting of short term bank borrowing (BBLT1) and short term securitised debt (STSD);

BBLT1

Bank borrowing repayable in less than one year (including proportion of long term loans repayable within one year); and

STSD

Short term securitised debt (non-bank borrowing repayable in less than one year).

28

Appendix 2: Independent Variable Definitions

MTB

Market-to-book ratio: the ratio of the book value of total assets (TA) less the book value of equity capital and reserves (ECR) plus the market value of equity (MV), to the book value of total assets (Equation A1);

MTB =

TA ECR + MV TA

(A1)

LOGSALES

The natural logarithm of sales (Equation A2);

LOGSALE = Ln(Sales )

(A2)

PROFITABILITY

The ratio of earnings before interest, tax and depreciation (EBITDA), to the

book value of total assets (Equation A3);

PROFITABILITY =

EBITDA TA

(A3)

TANGIBILITY The ratio of the book value of depreciated fixed assets (FA) to that of total assets (Equation A4);

TANGIBILITY =

FA TA

(A4)

29

Table 1 Descriptive Statistics Debt Elements: Means (Medians)

TLIABS TLTD BBGT1 LTSD TCL TTCE TC OCL BRLT1 BBLT1 STSD Obs

1991 1992 1993 1994 1995 1996 1997 Difference (1991-97)

0.4941 (0.4900) 0.4936 (0.4849) 0.4862 (0.4705) 0.4963 (0.4823) 0.4989 (0.4963) 0.4908 (0.4893) 0.4894 (0.4825) -0.0047

0.0858 (0.0569) 0.0910 (0.0617) 0.0867 (0.0574) 0.0890 (0.0520) 0.0908 (0.0658) 0.0920 (0.0667) 0.0972 (0.0715) 0.0114**

0.0472 (0.0036) 0.0503 (0.0045) 0.0436 (0.0018) 0.0433 (0.0024) 0.0463 (0.0050) 0.0480 (0.0080) 0.0518 (0.0082) 0.0046

0.0373 (0.0096) 0.0394 (0.0097) 0.0426 (0.0087) 0.0393 (0.0076) 0.0421 (0.0094) 0.0427 (0.0088) 0.0430 (0.0091) 0.0057*

0.4077 (0.3890) 0.4041 (0.3880) 0.3971 (0.3846) 0.4010 (0.3841) 0.4075 (0.3943) 0.3967 (0.3872) 0.3913 (0.3798) -0.0164**

0.3074 (0.2918) 0.3052 (0.2897) 0.3090 (0.2959) 0.3270 (0.3171) 0.3252 (0.3142) 0.3229 (0.3098) 0.3201 (0.3101) 0.0127*

0.1427 (0.1310) 0.1444 (0.1283) 0.1477 (0.1291) 0.1510 (0.1331) 0.1533 (0.1351) 0.1495 (0.1317) 0.1448 (0.1235) 0.0021

0.1639 (0.1459) 0.1592 (0.1416) 0.1602 (0.1429) 0.1748 (0.1543) 0.1705 (0.1539) 0.1712 (0.1531) 0.1726 (0.1577) 0.0087**

0.1006 (0.0660) 0.0979 (0.0640) 0.0851 (0.0500) 0.0733 (0.0396) 0.0809 (0.0529) 0.0724 (0.0454) 0.0690 (0.0434)

0.0849 (0.0518) 0.0811 (0.0467) 0.0685 (0.0341) 0.0597 (0.0255) 0.0616 (0.0324) 0.0530 (0.0267) 0.0534 (0.0254)

0.0144 (0.0045) 0.0149 (0.0039) 0.0154 (0.0038) 0.0153 (0.0029) 0.0173 (0.0036) 0.0168 (0.0036) 0.0143 (0.0038) -0.0001

884 925 906 831 859 843 753

-0.0316*** -0.0315***

Note: All variables normalised by total assets. TLIABS refers to total liabilities, which is defined as the sum of total long term debt and total current liabilities; TLTD refers to total long term debt (repayable in more than one year); BBGT1 refers to bank borrowing repayable in more than one year; LTSD refers to long term securitised debt; TCL refers to total current liabilities; TTCE refers to total trade credit and equivalent; TC to trade credit; OCL to other current liabilities; BRLT1 refers to borrowing repayable in less than one year; BBLT1 refers to bank borrowing repayable in less than one year and STSD refers to short term securitised debt. Test for significance of change in means from 1991 to 1997 based on two sample difference in means t-test. *, ** and ***, significant at the 10, 5 and 1 percent level respectively.

Table 2 Descriptive Statistics Explanatory Variables: Means (Medians)

Variable MTB Logsales Earnings Tangibility Obs

1991 1992 1993 1994 1995 1966 1997 Difference 1991-97

1.4617 (1.3191) 1.3578 (1.2406) 1.3156 (1.2053) 1.4319 (1.2805) 1.4964 (1.3290) 1.5529 (1.3633) 1.5747 (1.3764) 0.1129***

11.0512 (10.8788) 11.1003 (10.9257) 11.1469 (10.9224) 11.2451 (11.0132) 11.2548 (11.0636) 11.3737 (11.1976) 11.5471 (11.3785) 0.4959***

0.1602 (0.1607) 0.1514 (0.1545) 0.1390 (0.1438) 0.1264 (0.1346) 0.1214 (0.1284) 0.1250 (0.1307) 0.1308 (0.1344) -0.0294***

0.3500 (0.3204) 0.3666 (0.3361) 0.3771 (0.3454) 0.3776 (0.3467) 0.3642 (0.3280) 0.3521 (0.3143) 0.3522 (0.3091) 0.0022

884 925 906 831 859 843 753

Note: MTB refers to the ratio of market value to book value of assets, Logsales to the natural logarithm of turnover, Earnings is defined as EBITDA/Total assets, and Tangibility refers to the ratio of net (depreciated) fixed assets to total. The explanatory variables are calculated as one year lagged three year averages. Thus, the 1991 values refer to the mean values for 1988-1990.

Table 3 Cross-Sectional Analysis of Decomposed Debt Elements in the UK, 1991

Dependent Variable Constant Market-toBook Logsales Profitability Tangibility Adj R2 F

TLIABS

0.3737***

0.0671***

0.0190***

-0.7733***

-0.1914***

0.1527

33.09***

Long term debt

TLTD BBGT1 LTSD -0.0934*** -0.0142 -0.0789*** 0.0118* 0.0071 0.0043 0.0152*** 0.0058*** 0.0093*** -0.2532** -0.1402*** -0.1054*** 0.0926*** 0.0257* 0.0660*** 0.1366 0.0350 0.1277 38.03*** 8.00*** 28.44***

Short term debt

TCL TTCE TC OCL BRLT1 BBLT1 STSD 0.4553*** 0.2365*** 0.1646*** 0.0732*** 0.2268*** 0.2198*** 0.0047 0.0578*** 0.0531*** 0.0056 0.0478*** 0.0050 0.0064 -0.0002 0.0047 0.0101*** 0.0058*** 0.0041*** -0.0052*** -0.0064*** 0.0013*** -0.5242*** -0.1896*** -0.2374*** 0.0390 -0.3630*** -0.3360*** -0.0324** -0.2887*** -0.2546*** -0.1639*** -0.0889*** -0.0504*** -0.0547*** 0.0024 0.1724 0.1861 0.1423 0.1584 0.0911 0.0838 0.0187 36.68*** 49.54*** 33.75*** 36.56*** 17.49*** 14.10*** 4.64**

*, ** and ***, significant at the 10, 5 and 1 percent level respectively. All dependent and independent variables are scaled by total assets. TLIABS refers to total liabilities, which is defined as the sum of total long term debt and total current liabilities; TLTD refers to total long term debt (repayable in more than one year); BBGT1 refers to bank borrowing repayable in more than one year; LTSD refers to long term securitised debt; TCL refers to total current liabilities; TTCE refers to total trade credit and equivalent; TC to trade credit; OCL to other current liabilities; BRLT1 refers to borrowing repayable in less than one year; BBLT1 refers to bank borrowing repayable in less than one year and STSD refers to short term securitised debt.

Table 4 Cross-Sectional Analysis of Decomposed Debt Elements in the UK, 1997

Dependent Variable Constant Market-toBook Logsales Profitability Tangibility Adj R2 F

TLIABS

0.2385***

0.0298***

0.0251***

-0.3219***

-0.1256***

0.1141

22.08***

Long term debt

TLTD BBGT1 LTSD -0.1293*** 0.0054 -0.1276*** 0.0123* 0.0096* 0.0007 0.0148*** 0.0022 0.0123*** -0.1631** -0.1116*** -0.0408 0.1632*** 0.0568*** 0.0916*** 0.1755 0.0349 0.1808 38.84*** 5.46*** 31.75***

Short term debt

TCL TTCE TC OCL BRLT1 BBLT1 STSD 0.3676*** 0.2589*** 0.1844*** 0.0755*** 0.1063*** 0.1069*** 0.0043 0.0183* 0.0134* -0.0193*** 0.0295*** 0.0007 -0.0024 0.0016 0.0103*** 0.0118*** 0.0056*** 0.0060*** -0.0017 -0.0032** 0.0011** -0.1550* 0.0213 -0.0980** 0.1324*** -0.1275*** -0.0622* -0.0444** -0.2951*** -0.2828*** -0.1730*** -0.1028*** -0.0069 -0.0142 0.0084* 0.1879 0.2170 0.1745 0.1999 0.0250 0.0195 0.0258 46.21*** 61.98*** 40.56*** 44.45*** 3.62*** 3.56*** 3.53***

*, ** and ***, significant at the 10, 5 and 1 percent level respectively. All dependent and independent variables are scaled by total assets. TLIABS refers to total liabilities, which is defined as the sum of total long term debt and total current liabilities; TLTD refers to total long term debt (repayable in more than one year); BBGT1 refers to bank borrowing repayable in more than one year; LTSD refers to long term securitised debt; TCL refers to total current liabilities; TTCE refers to total trade credit and equivalent; TC to trade credit; OCL to other current liabilities; BRLT1 refers to borrowing repayable in less than one year; BBLT1 refers to bank borrowing repayable in less than one year and STSD refers to short term securitised debt.

Table 5 Fixed Effects Panel Analysis of Time Interactions in Determinants of Decomposed Debt Elements in the UK, 1991-1997
TLIABS TLTD BBGT1 LTSD TCL TTCE TC OCL BRLT1 BBLT1 STSD

Constant 92 93 94 95 96 97 MTB 92 93 94 95 96 97 Logsales 92 93 94 95 96 97

-0.1126* 0.0223 0.0816** 0.0803** 0.0875** 0.0091 -0.0350 0.0440*** -0.0243** -0.0390*** -0.0188* -0.0541*** -0.0601*** -0.0570*** 0.0494*** -0.0008 -0.0057* -0.0082*** -0.0054* 0.0004 0.0018

-0.1159** 0.0156 0.0402* 0.0391 0.0176 -0.0165 -0.0144 0.0017 -0.0039 -0.0076 0.0068 -0.0028 -0.0006 0.0032 0.0166*** -0.0014 -0.0040** -0.0058*** -0.0024 0.0003 -0.0008

-0.0665** 0.0289 0.0638*** 0.0474*** 0.0612*** 0.0189 0.0324* 0.0074* -0.0039 -0.0102* -0.0025 -0.0150*** -0.0083* -0.0000 0.0088*** -0.0020 -0.0054*** -0.0053*** -0.0052*** -0.0021 -0.0038**

-0.0142 -0.0193 -0.0432*** -0.0075 -0.0450*** -0.0320** -0.0427*** -0.0041 0.0020 0.0066 0.0030 0.0078** 0.0054 0.0019 0.0050** 0.0010 0.0028** -0.0001 0.0031*** 0.0021* 0.0030**

-0.0045 0.0090 0.0476 0.0488 0.0686** 0.0304 -0.0102 0.0417*** -0.0120 -0.0335*** -0.0432*** -0.0489*** -0.0614*** -0.0583*** 0.0342*** 0.0002 -0.0027 -0.0024 -0.0031 -0.0004 0.0016

0.0947** 0.0305 0.0577** 0.0733*** 0.0920*** 0.0955*** 0.0958*** 0.0281*** -0.0086 -0.0183*** -0.0271*** -0.0340*** -0.0387*** -0.0438*** 0.0180*** -0.0009 -0.0024 -0.0009 -0.0036* -0.0036* -0.0041**

0.0172 0.0186 0.0495*** 0.0542*** 0.0678*** 0.0702*** 0.0761*** 0.0156*** -0.0045 -0.0175*** -0.0187*** -0.0232*** -0.0282*** -0.0318*** 0.0096*** 0.0002 -0.0013 -0.0012 -0.0022* -0.0022* -0.0037***

0.0922*** 0.0049 0.0102 0.0164 0.0224 0.0312* 0.0172 0.0121*** -0.0024 -0.0072 -0.0063 -0.0118*** -0.0149*** -0.0167*** 0.0071** -0.0008 -0.0009 0.0001 -0.0013 -0.0018 0.0001

-0.1252*** -0.0268 -0.0267 -0.0348 -0.0335 -0.0701*** -0.1112*** 0.0095* -0.0043 -0.0179*** -0.0160** -0.0164*** -0.0225*** -0.0175*** 0.0195*** 0.0012 0.0005 -0.0008 0.0007 0.0032* 0.0055***

-0.1677*** -0.0208 -0.0327 -0.0410* -0.0375* -0.0832*** -0.1062 0.0136*** -0.0081 -0.0189*** -0.0203*** -0.0270*** -0.0290*** -0.0239*** 0.0212*** 0.0008 0.0008 0.0003 0.0013 0.0043** 0.0053***

0.0319** -0.0049 0.0063 0.0114 0.0063 0.0038 -0.0011 -0.0039** 0.0022 0.0004 0.0050** 0.0061*** 0.0039** 0.0036* -0.0010 0.0004 -0.0004 -0.0014** -0.0007 -0.0003 -0.0001

Table 5 continued Fixed Effects Panel Analysis of Time Interactions in Determinants of Decomposed Debt Elements in the UK, 1991-1997
TLIABS TLTD BBGT1 LTSD TCL TTCE TC OCL BRLT1 BBLT1 STSD

Profit 92 93 94 95 96 97 Tang 92 93 94 95 96 97 Comp. Obs R2 within R2 betw. R2 overall F

-0.3079*** -0.0582 0.0586 0.0057 0.0934 0.0238 0.1583** 0.0299 0.2613*** -0.0036 0.3194*** 0.0174 0.4592*** 0.0325 0.0996*** 0.0242 0.0265 0.0274 0.0216 0.0380 0.0453* 1054 6001 0.0466 0.0014 0.0059 7.06*** 0.0674*** 0.0149 0.0159 0.0263 0.0308* 0.0326* 0.0469*** 1054 6001 0.0198 0.1531 0.1167 2.92***

-0.0638* -0.0109 -0.0045 0.0141 0.0578 0.0484 0.0140 0.0381** 0.0071 0.0187 0.0205 0.0245* 0.0242* 0.0289** 1054 6001 0.0205 0.0281 0.0262 3.03***

-0.0224 0.0119 0.0172 0.0139 -0.0365 -0.0203 0.0277 0.0212 0.0067 0.0006 0.0002 0.0081 0.0102 0.0083 1054 6001 0.0122 0.2077 0.1483 1.78***

-0.0274*** 0.0128 0.1101* 0.2105*** 0.2636*** 0.3121*** 0.4028*** 0.0210 0.0046 0.0063 0.0011 -0.0173 0.0058 0.0009 1054 6001 0.0348 0.0028 0.0004 5.21***

-0.1682*** -0.0095 0.0033 -0.0163 0.0879* 0.0962** 0.1859*** -0.0143 -0.0177 -0.0074 -0.0199 -0.0030 -0.0021 0.0022 1054 6001 0.0499 0.0156 0.0201 7.59***

-0.0611*** -0.0154 0.0132 0.0167 0.0545** 0.0495* 0.1456*** 0.0075 -0.0243** -0.0172* -0.0204** -0.0189* -0.0143 -0.0089 1054 6001 0.0460 0.0070 0.0146 6.96***

-0.1095*** 0.0032 0.0111 -0.0286 0.0373 0.0628* 0.0614* -0.0236 0.0088 0.0114 0.0049 0.0185 0.0155 0.0111 1054 6001 0.0295 0.0020 0.0034 4.40***

-0.1431*** 0.0635 0.1575*** 0.2436*** 0.1868*** 0.2257*** 0.2673*** 0.0374* 0.0173 0.0164 0.0165 -0.0001 0.0118 0.0078 1054 6001 0.0526 0.0292 0.0080 8.03***

-0.1561*** 0.1063*** 0.1693*** 0.2400*** 0.2810*** 0.2829*** 0.3186*** 0.0478*** 0.0072 0.0205 0.0223 -0.0052 0.0097 0.0024 1054 6001 0.0724 0.0430 0.0118 11.29***

0.0224* -0.0270 -0.0130 -0.0290** -0.0578*** -0.0396*** -0.0317** -0.0119* 0.0050 0.0015 0.0081 0.0091* 0.0078 0.0068 1054 6001 0.0130 0.0003 0.0008 1.91***

*, ** and ***, significant at the 10, 5 and 1 percent level respectively. All dependent and independent variables are scaled by total assets. TLIABS refers to total liabilities, which is defined as the sum of total long term debt and total current liabilities; TLTD refers to total long term debt (repayable in more than one year); BBGT1 refers to bank borrowing repayable in more than one year; LTSD refers to long term securitised debt; TCL refers to total current liabilities; TTCE refers to total trade credit and equivalent; TC to trade credit; OCL to other current liabilities; BRLT1 refers to borrowing repayable in less than one year; BBLT1 refers to bank borrowing repayable in less than one year and STSD refers to short term securitised debt.

NOTES
1

Based on DeAngelo and Masulis (1980) argument, one would expect companies with

large amounts of depreciation to have relatively low levels of debt. If fixed assets proxy for the availability of such non-interest tax shields, DeAngelo and Masulis theory would imply a negative correlation between tangibility and gearing, contrary to what is generally observed (see section 2.4). In their empirical analysis, Bradley et al. (1984) find no support for DeAngelo and Masulis tax based theory.
2

The analysis was also undertaken on a balanced panel of 550 companies for which The results for this balanced panel (not

information was available in every year.

reported) are very similar to the results for the non-balanced panel reported below.
3

We also performed the same regression analysis with non-averaged one year lags of

the independent variables, with no significant change in the results.

4

An MTB ratio in excess of unity does not unequivocally indicate that a company has

valuable growth opportunities, as the MTB ratio will also exceed unity if the company has invested in positive NPV projects. However, while MTB may not directly measure growth opportunities, it provides a good proxy. Barclay and Smith (1999) find the MTB variable to produce results very similar to those obtained with other proxies for growth opportunities in cross-sectional regressions of capital structure.
5

We also estimated our cross-sectional regressions using censored Tobit analysis, at

various degrees of left and/or right censoring. It is, however, not clear that all variables should be censored at the same points. We therefore report our results based on OLS rather than censored Tobit regressions. It should be noted, however, that as do Rajan and Zingales (1995) we find the OLS and Tobit results to be very similar, and our results are robust to the choice of estimation technique.
6

The significance levels of the cross-sectional regression coefficients are reported using

Whites heteroscedasticity-consistent standard errors (White (1980)). As a robustness

check, we also re-estimated all regressions using robust regressions based on Cooks (1977) distance measure. The robust regression results (not reported) were not

significantly different from the OLS regression results reported below.