In “pecking order hypothesis”, the notion that firms has a preferred order of raising capital which starts from preferring internal financing and then debt financing and then equity as a last resort, is somehow weak.
In real life mostly firms will shop around for than one or two companion at the same time.
What do you think?
Your idea of shopping around might seem reasonable if you are speaking about publicly listed companies, but most companies do prefer to use internal finance rather than debt or equity. You can take a look at the World Bank Enterprise Surveys. For all the companies surveyed (world) approximately 70% of investment is financed from internal sources. Indeed, in Jordan about 80% of investment is financed internally.
http://www.enterprisesurveys.org/Data/ExploreEconomies/2006/jordan#finance
The pecking order hypothesis is a possible explanation for firms capital structure. There are some other competing/complementary hypotheses such as the trade-off one, the market timing, etc.
This paper provides an insighful explanation of these theories
Cole, R. A. 2013. What Do We Know about the Capital Structure of Privately Held US Firms? Evidence from the Surveys of Small Business Finance. Financial Management, 42(4): 777-813.
Im working in Scientific Information.
So I think that "Pecking order" is non convenient for me. It is quite unrealistic
Pecking order theory is mainly driven by information asymmetry issue which is only on one aspect of market imperfections. There are other market imperfections such as bankruptcy costs, taxes etc. that pecking order theory ignores. So, pecking order theory alone is insufficient to explain how financial managers make capital structure decision in real world. Despite its weaknesses, the pecking order theory is confirmed to explain capital structure decision of some firms around the world, especially firms in emerging markets.
Despite the fact that you may consider the trade-off theory, or the market timing theory (Wurgler and Baker, 2002) Journal of Finance or some other proposition bounded to the "target leverage ratio" (herding behavior in an industry?), the pecking order theory has some merits for young companies listed on the market and facing a high level of information asymmetry.. You can read Byoun (2008) in the Journal of Finance.
Hi,
Frank and Goyal (2003) have already tested the pecking order theory concerning debt, and they have shown it is not a completely satisfactory theory. But, as for me, It may explain things for small and not listed companies. Theoretically speaking it comes from the Myers Majluf paper (1984)
Greetings
Based on selected empirical evidence across countries, the pecking order theory seems applicable to listed firms in some countries.
Ni and Yu (2008) use the entire cross-section sample of China's listed firms. The authors find no evidence that listed firms in China follow a pecking order when they need funds to finance investment projects. Further subgroup analyses indicate that big firms follow a pecking order and small and medium firms do not. Likewise, Aggarwal and Zong (2006) use comparable data of corporations in the US, the UK, Japan, and Germany, they find that in all four countries, investment levels are significantly positively influenced by levels of internal cash flows, indicating that corporations may follow the pecking order theory.
Conversely, Delcoure (2007) findings reveal that neither the pecking order, tradeoff, nor agency costs theories explain the capital structure policies in Central and Eastern European (CEE) countries. They conclude that the differences of banking systems, disparity in legal systems governing corporate operations, shareholders’ and bondholders’ rights protections, sophistication of stock and bond markets, and corporate governance, are the factors that influence corporate leverage decisions for CEE countries.
It appears that the pecking order theory explains capital structure decisions of some listed firms, but the validity of pecking order theory is country specific.
Dear Pro Samer
I add some my own ideas on the second question.
I think it depends on many determinants including the internal and external factors to make this theory rellized. For example, in my country where the banking system dominates the financial markets, the fiancial markets which the stock is young and the debt market is not truly available so that the company almost think about debt from bank in advance of internal retained earnings
However, i also argee that the pecking order theory is good in explaining the capital structure of firms at overall
Best
Canh
HI,
It may depend on the level of competition faced by the firm:
. The Strategic Behavior of Firms with Debt.
Texte intégral disponibleRevue universitaire
By: Reboul, Jérôme; Toldrà-Simats, Anna. Journal of Financial & Quantitative Analysis. Oct2016, Vol. 51 Issue 5, p1611-1636. 26p.
Best regards
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