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Company performance and optimal performance

Company
and
capital structure: evidence of optimal capital
structure
transition economy (Russia)
Vladislav Spitsin
School of Engineering Entrepreneurship, Tomsk Polytechnic University,
Tomsk, Russia and Received 24 September 2019
Revised 28 March 2020
Department of Economics, 17 April 2020
Accepted 19 April 2020
Tomsk State University of Control Systems and Radioelectronics, Tomsk, Russia
Darko Vukovic
Department of Finance and Credit, RUDN University Faculty of Economics, Moskva,
Russia and
Department of Finance,
National Research University Higher School of Economics–Saint Petersburg,
St Petersburg, Russia
Sergey Anokhin
Herberger Business School, St. Cloud State University, St. Cloud, Minnesota, USA
and
School of Engineering Entrepreneurship, Tomsk Polytechnic University,
Tomsk, Russia, and
Lubov Spitsina
School of Core Engineering Education, Tomsk Polytechnic University,
Tomsk, Russia

Abstract
Purpose – The paper analyzes the effects of the capital structure on company performance (return on assets).
The analysis is conducted in a large sample of high-tech manufacturing and service companies in the transition
economy (Russian Federation). In addition to the aggregated analysis, separate investigations are conducted to
scrutinize the impact of company age, size and location factors (the effects of agglomerations). This research
postulates the existence and variability of the optimal capital structure and its dependence on economic crisis.
Design/methodology/approach – We utilized a large sample that includes 1,826 enterprises over the period
from 2013 to 2017. The estimation was performed using the panel-corrected standard error estimation
technique (Prais–Winsten regression) to account for the panel nature and distributional properties of our data.
The existence of the optimal capital structure was assessed based on a curvilinear (quadratic) function.
Findings – The results are consistent with the Static Trade-off Theory and show that this theory is applicable
to countries with transition economy. They demonstrate that effective management of the capital structure can
increase return on assets by 16–22%. The optimal share of borrowed capital is higher for small businesses
compared to larger ones and for enterprises located in agglomerations compared to those located in other
regions. A greater increase in profitability can be achieved by larger firm companies compared to smaller ones.
High share of borrowed capital leads to negative profitability, i.e. to losses by enterprises. No significant
differences in profitability growth were identified between young and mature enterprises. The optimal share of
borrowed capital that maximizes return on assets is in the range of 0–21%.

The research is conducted with financial support from Russian Foundation for Basic Research (RFBR)
in the frames of scientific and research project of RFBR named “Drivers for the development of
enterprises in Russia’s high-tech industries and services under sanctions: economic analysis and Journal of Economic Studies
econometric modeling”, project No. 19–010-00927 (a). The study of the differences between young and © Emerald Publishing Limited
0144-3585
mature enterprises was carried out with the support of Tomsk Polytechnic University CE Program. DOI 10.1108/JES-09-2019-0444
JES Research limitations/implications – Due to the SPARK policies, our access to the data has been limited to a
five-year window, which imposed certain limitations on the choice of econometric methods we could have
employed and somewhat limited our ability to contrast the effect of the crisis period with the period of stability.
In this sense, although our results pertaining to the effect of the crisis could be treated as conservative, future
research should consider extending the panel to include more years into consideration.
Practical implications – We identified significant differences between optimal capital structures and actual
capital structures for high-tech enterprises. The contribution of this study is that the calculations were made for
a country with a transition economy under crisis conditions. Countries with transition economies and
developing countries tend to be characterized by a high level of interest rates on loans and a high proportion of
borrowed capital in total assets. This poses difficulties for companies relying on borrowed capital to finance
their operations. At the same time, our results demonstrate that in transition economies, enterprises in high-
tech industries do have an optimal capital structure that allows maximizing firm performance. That is, Static
Trade-off Theory is applicable to transition economies characterized by high interest rates on loans.
Originality/value – The novelty of this study lies in the detailed analysis of high-tech industries in Russian
Federation. This analysis makes use of sophisticated econometric techniques for the first time in this context.
Keywords Net return on assets (ROA), Capital structure, High-tech industries and services, Transition
economy, Russia
Paper type Research paper

1. Introduction
High-tech industry is the source of inventions and innovation, characterized by effectively
using of knowledge. It is knowledge-intensive and technology-intensive industry often with
the strong influence on economic development. According to the Liu et al. (2011), Ameer and
Othman (2020), high-tech industry promotes transformation and upgrade of traditional
industries structure. The distinctive features of the enterprises in high-tech industry
compared with the enterprises of other industries are high demand for scientific research,
scientific and technical personnel, innovativeness and intensity of R&D expenditure; high
number of patents and licenses and very fast diffusion of technological innovations. Also, this
industry has a greater risk in the development process compared to the traditional industry,
caused by a number of factors, such as greater complexity of production and corporate
capacity as well as due to the greater uncertainty of the external environment (Liu et al., 2011).
Researchers from developing countries and countries with transition economies show great
attention to the high-tech industries development. According to Goldstein (2002), Xiong et al.
(2012), and Zolfani and Bahrami (2014), the support of high-tech enterprises that are
“locomotives” of the innovative economic system formation is one of the state economic
policy priorities. At the same time, it is important for developing countries and countries with
a transition economy to reduce the lag behind developed countries in the high-tech
enterprises development.
High-tech industries are generally recognized as national economies development drivers
(Varum et al., 2009; Simonen et al., 2015; Spitsin et al., 2020). According to Varum et al. (2009),
Lang et al. (2012), Czarnitzki and Susanne (2012) and Brenner et al. (2017), high-tech industries
are crucial in fixing destabilizing factors and they are sustainable to act as hot spots in a crisis
economy. In China, high-tech industries became the drivers of economic development in the
twenty-first century (Li et al., 2017). On the contrary, in the United States this sustainable
development in the 2000s is no longer confirmed, and high-tech industries also show a decline
during crises (Haltiwanger et al., 2014; Decker et al., 2016; Maiti et al., 2020). Peculiarities of the
high-tech industries geographical location and their impact on the region development are
considered in the works (De Silva and McComb, 2012; Simonen et al., 2015). A significant
number of works emphasize the importance of not only high-tech industries development but
also high-tech service industries (Sk
orska, 2016; Brenner et al., 2017).
In this paper, we analyze the enterprises of high-tech industries on the example of Russia –
large country with a transition economy. As shown in the works of Anfimova (2015) and
Dzhamay et al. (2016), the high-tech industries development is one of the economic priorities
for Russia, especially in the face of internal and external challenges and economic sanctions. Company
The distinct features of this work are as follows: performance and
(1) Research is conducted on a sample of high-tech industries and services enterprises optimal capital
that have a number of distinctive features from the enterprises of other industries; structure
(2) The study is carried out on the example of a large country with a transitional
economy that is in unstable economic conditions, while the study period includes both
a stable economic situation and crisis periods;
(3) Modeling of the optimal capital structure is carried out on the basis of quadratic
function used in regression models;
(4) Finally, it discusses the possibility of optimizing debt capital in the context of a
different group of high-tech industries enterprises.
An important component in our research is profitability, influenced by the capital structure.
Almost fifty years ago it was proven that optimal capital structure maximizes the value of the
firm and minimizes the cost of capital (in the work of Modigliani and Miller, 1963). The theory
of Modigliani and Miller (1963) was developed in agency theory (Jensen and Meckling, 1976),
pecking order theory (Myers and Mujlif, 1984) and theory of bankruptcy (Titman, 1984). In
particular, the effect of company size on capital structure and profitability is discussed in
Vithessonthi and Tongurai (2015), Maiti and Balakrishnan (2018) and Ibhagui and Olokoyo
(2018). The authors apply the threshold regression model to investigate the effect of firm size
on financial leverage and profitability and reveal that only small companies are adversely
affected by debt capital on profitability. Nevertheless, the authors note that the degree of
positive or negative impact of leverage on the company performance is generally higher and
more pronounced for small companies compared to the companies of the large size.
Vithessonthi and Tongurai (2015), analyzing the data during the global financial crisis, reveal
that the impact of leverage on performance is positive for small firms and negative for large
firms. They also note that about 75% of firms in the sample managed to survive the crisis
without a significant reduction in borrowed capital. Opler and Titman (1994) found that
during periods of downturn, companies with higher leverage tend to lose market share and
receive lower operating profit than their competitors.
According to Henderson (2003), territorial concentration of industry has a strong impact
on productivity in high-tech industries. Thus, we can expect greater opportunities for
increasing profitability due to effective capital management of enterprises located in
agglomeration centers as compared with peripheral regions. Profitability is an important
indicator of competitiveness and enterprise development efficiency (Fern
andez et al., 2019;
Roufagalas and Orlov, 2020). It is necessary for the effective catch-up development of high-
tech industries in developing countries and countries with transition economies. In the
scientific literature, studies of the relationship between capital structure and enterprise
profitability are widely presented (Salim and Yadav, 2012; Gonz
alez, 2013; Le and Phan, 2017;
Jarallah et al., 2018; Vukovic et al., 2020b). There are two competing theories in relation to
borrowed capital (Negasa, 2013; Le and Phan, 2017; Jarallah et al., 2018): (1) Static Trade-off
Theory and (2) Pecking Order Theory. Static Trade-off Theory recognizes the possibility and
the need to optimize the capital structure of enterprises. Pecking Order Theory, on the
contrary, argues that borrowed capital is used only by those enterprises that experience
profitability problems and cannot attract financial resources. Studies of the impact of the
share of borrowed capital on the profitability of enterprises in different countries and in
different industries give contradictory results. A number of works confirm the negative
relationship (Kester, 1986; Rajan and Zingales, 1994; Chakraborty, 2010; Sial and Chaudhry,
2012; Gonz
alez, 2013; Ngoc Vy, 2016; Vu and Phan, 2016; Habrosh, 2017; Spitsin et al., 2018),
JES which is consistent with Pecking Order Theory as because higher returns increase the
potential for profit retention and reduce the need for borrowing. At the same time, a number of
papers (Roden and Lewellen, 1995; Abor, 2005; Chatterjee, 2012; Ajibolade and Sankay, 2013;
Negasa, 2013; Jain et al., 2017; Vaicondam and Ramakrishnan, 2017) revealed a positive effect
that confirms Static Trade-off Theory. Research shows that although the use of borrowed
capital leads to higher costs (Andrade and Kaplan, 1998; Vukovic et al., 2020a), it can also
improve corporate performance (Stulz, 1990; Opler and Titman, 1994). The main
distinguished reasons for the profitability increase lie in increasing responsibility and
discipline in managing companies with borrowed capital, as well as in reducing taxation due
to interest payments on a loan.
Pathak (2011) in his study found that the debt burden has a significant negative
relationship with the company profitability, which is not consistent with the findings
conducted for Western countries, but is consistent with some studies for Asian region. One
of the reasons for this controversial result may be the high cost of borrowing in developing
countries compared with Western countries (Le and Phan, 2017). Since we consider a
country with a transition economy and high interest rates, which during crisis periods
increase even more, in our study we will take this fact into account. Summarizing the
above, revealed multidirectional influence of the capital structure on profitability suggests
a non-linear relationship (see, e.g. Stulz, 1990; Khan, 2012), which we plan to identify and
explore in this paper. The work (Le and Phan, 2017) notes that non-linear relationships
appear only when efficiency is measured by ROE, and capital structure is measured by
total and short-term debt. The debt ratio is positively significant, and the square debt ratio
is significantly negative in the ROE equation, but these coefficients are negative and
insignificant in the ROA and Tobin Q regressions. This study allows to take into account
the impact of both impacts of the level debt level (positive and negative), using the
quadratic function, as used by Berger and Bonaccorsi di Patti (2006) and Margaritis and
Psillaki (2010).
The purpose of this paper is to analyze the possibilities of increasing the profitability of
high-tech industries and services enterprises through the effective management of the capital
structure. The novelty of this research is associated with global trends in the knowledge
economy formation, focused primarily on the high-tech industries self-developing core, as
well as on knowledge-intensive and innovative industries. Calculations are performed for the
case of Russia. Modeling is carried out both based on a full sample of enterprises of high-tech
industries and services, and for the following groups of enterprises:
(1) Young and mature enterprises (separation by age);
(2) Large enterprises and small enterprises (separation by size);
(3) Enterprises located in agglomerations, and enterprises located in other regions
(separation by location).
The paper calculates the optimal share of borrowed capital to maximize the net return on
assets (ROA). The object of the research is the enterprises of high-tech industries and
services. The data on the financial indicators of enterprises were obtained from the
information system SPARK. Research period: 2013–2017. The main issues that are
considered in our study are:
(1) To investigate the impact of capital structure on the profitability of high-tech
industries and services enterprises in the country with transition economy (the case of
Russian Federation);
 (2) To determine the possibilities of increasing the net ROA through the effective Company
management of the capital structure for the full sample of enterprises and for separate performance and
groups of enterprises;
optimal capital
(3) To assess the impact of the crisis on the optimal capital structure and on the structure
possibility of increasing the net ROA;
(4) To compare the calculated optimal shares of borrowed capital and actual average
shares of borrowed capital of Russian enterprises.
In this research the following hypotheses are tested:
(1) There is an optimal capital structure that maximizes ROA.
(2) The effective use of borrowed capital allows increasing the firm performance.
(3) For groups of enterprises, there are differences in the optimal share of borrowed
capital, and in some cases, in the increase in profitability:

Large enterprises have a lower optimal share of borrowed capital than small
businesses;

Enterprises located in agglomerations have a higher optimal share of borrowed
capital, compared with enterprises located in other regions;

Young enterprises have a lower optimal share of borrowed capital and greater
increase in profitability compared to mature enterprises;
(4) In the crisis periods, the optimal share of borrowed capital is reduced and the
possibility of increasing profitability using borrowed capital is reduced.

2. Data and methodology

2.1 Data
The research sample is obtained from high-tech industries and services, selected according to
international classifications (NACE Rev. 2 codes, Statistical classification of economic
activities in the European Community), Eurostat indicators on High-tech industry and
Knowledge (Rodriguez, 2014).
The data on financial indicators of enterprises were obtained from the Spark Information
Systems (SPARK, 2019). We gathered this information from 2013 to 2017. The SPARK
system allows generating large samples of enterprises with financial indicators but is limited
to a five-year period. This is one of the significant limitations of the SPARK system. We have
chosen the last time period that was available at the time of the study. Besides, in earlier
periods many companies did not consistently submit their financial reports to the system
such that major gaps in data are common prior to 2013. The chosen time period features
significantly fewer data gaps. Companies with data gaps were excluded from the study in
order to have a balanced panel data structure.
To be included in the sample, companies had to report sales of at least 100 million rubles
annually in each of the years. All enterprises of the high-tech industries and services that met
this criterion were included in the sample (1,848 enterprises total). Enterprises with missing
values of indicators or exhibiting major outliers were excluded from the study. In accordance
with these criteria, the sample was formed that included 1,826 enterprises or 9,130
observations (1,826 enterprises * 5 years). The detailed information on the sample is
presented in Table 1.
JES Groups and subgroups of enterprises Number of enterprises Number of observations

1.1.High-tech industries NACE codes

21 193 965
26 334 1,670
30.3 58 290
Total 585 2,925
1.2. High-tech services 62 473 2,365
63 155 775
72 613 3,065
Total 1,241 6,205
Total 1,826 9,130
2.1. Enterprises located in agglomerations 806 4,030
2.2. Enterprises located in other regions 1,020 5,100
Total 1,826 9,130
3.1. Young enterprises 546.2a 2,731
3.2. Mature enterprises 1279.8 6,399
Total 1,826 9,130
Grouping by time periods 1,826 5,478
4.1. Crisis conditions (2014–2016)
4.2. Non-crisis conditions (2013, 2017) 1,826 3,652
Note(s): aA fractional number of enterprises was obtained because some enterprises changed the group by age
Table 1. over the studied five-year period of time
The sample details Source(s): SPARK Information system (2019)

The sample used for the empirical analyses contained 1,826 enterprises (98.8% of the full
sample), including 585 enterprises in high-tech industries and 1,241 enterprises in high-tech
services. The following criteria were used to form enterprise groups within this sample:
(1) High-tech industrial enterprises correspond to NACE codes 21, 26, 30.3. High-tech
enterprises in the service sector correspond to NACE codes 62, 63, 72.
(2) Young enterprises are enterprises under 10 years of age. Mature enterprises are
enterprises 10 years and older.
(3) Groups of large and small enterprises are distinguished and investigated using the
variable size, which is calculated as the natural logarithm of revenue and
standardized. Large companies are those at one standard deviation above the
mean, whereas small are at one standard deviation below the mean.
(4) Enterprises located in agglomerations include enterprises located in the largest
region of Russia by the population size and density: Moscow. Enterprises located in
other regions include other enterprises.
The influence of economic dynamics (periods of stability, crisis, improvements) was studied
on a full sample of enterprises. Years 2014 through 2016 were considered to be the crisis
period, whereas years 2013 and 2017 were treated as non-crisis (stability) period.
As noted above, the SPARK system makes it possible to generate data on financial
indicators of enterprises for only a five-year period. Therefore, the obtained time periods are
quite short. Nevertheless, they contain a significant number of observations (3,652 or more in
each time period, see Table 1), which allows for adequate statistical inference.

2.2 Methodology
This research applies regression analysis to the panel data. Accordingly, we could not rely on
ordinary least squares estimation and had to consider appropriate econometric techniques. In
principle, this implied a choice between fixed effects, feasible generalized least squares (the Company
Parks method) and panel corrected standard errors approach (Prais–Winsten regression). As performance and
suggested in Blackwell (2005), however, the fixed effect method is not suitable for panels
characterized by heteroskedasticity, panel autocorrelation and contemporaneous correlation.
optimal capital
For that reason, we limited our selection of the econometric approach to the choice between structure
the Parks method and the Prais–Winsten regression. As explained in detail in Beck and Katz
(1995), in shorter panels the Parks method tends to produce standard errors characterized by
extreme overconfidence, whereas the Prais–Winsten regression produces conservative
estimates. As such, we chose this estimator to test our hypotheses.
To determine the optimal capital structure, we use an approach based on a quadratic
function. We add the variable share of borrowed capital and the square of the share of
borrowed capital to the regression model. Next, we take the derivative of the resultant
function to determine the optimal value of the share of borrowed capital. This approach is
widely used in scientific research (Berger and Bonaccorsi di Patti, 2006; Margaritis and
Psillaki, 2010).
In this paper, ROA is selected as the dependent variable. This variable has found wide
application in scientific research in evaluating financial results and the effectiveness of
enterprise development (Vaicondam and Ramakrishnan, 2017; Chatterjee, 2012;
Habrosh, 2017).
(1) Control variables.
We use the standard set of control variables applied in economic research (Vaicondam and
Ramakrishnan, 2017; Chatterjee, 2012; Habrosh, 2017):

Size of the enterprises (SIZE), defined as the natural logarithm of sales, adjusted for the
inflation index;

Share of fixed assets in total assets (FATA);

Current liquidity ratio is the ratio of current assets to current liabilities (CACL).

(2) The independent variable is the share of borrowed capital (leverage) (LEV), which is
calculated as the ratio of total debts to total assets. Based on this variable, we add another
variable to the model, which is the square of the share of borrowed capital (LEV2). Table 2
reports the descriptive statistics and correlations for the independent and control
variables for the full sample of enterprises (1,826 enterprises).

The data in Table 2 show that there is no strong correlation between the predictor
variables (r < 0.70), therefore, we can use them in regression analysis.
The models are presented in Table 3. In all models, the net ROA is the dependent variable.

Correlations (r) and their significance (p)

No Variables Mean Standard deviation 1 2 3 4

1 SIZE 20.05 1.21 1

2 FATA 15.56 18.58 0.09*** 1 Table 2.
3 CACL 3.29 16.39 0.05*** 0.02 1 Descriptive statistics
4 LEV 57.10 29.71 0.06*** 0.26*** 0.19*** 1 and correlations
Note(s): ***p < 0.001; p < 0.10 between variables
JES Model 1 includes only control variables. Model 2 allows us to estimate the effect of the
share of borrowed capital on profitability. Model 3 adds the variable “Square of the share of
borrowed capital”. According to these models, we got the following regression equation for
model 3:
ROAi;t ¼ α þ β1 SIZEi;t þ β2 FATAi;t þ β3 CACLi;t þ β4 LEVi;t þ β5 LEV2i;t þ vi þ εi;t (1)

The optimal capital structure is calculated using a quadratic function, based on model 3. The
optimal LEV maximizing the net ROA exists if the regression coefficient for the variable (β5 at
LEV2) <0. In this case, the formalized model for calculating the LEVopt:
DZKopt standardized ¼ −β4=2=β5 (2)

where β4, β5 are the coefficients of the regression model 3 at variables LEV, LEV2,
respectively,
LEVopt initial data ¼ LEVopt standardized 3 Standard deviation of LEV þ Mean of LEV
(3)

where standard deviation of LEV and mean of LEV are the data of descriptive statistics from
Table 2. They are equal to 29.71 and 57.10, respectively.
The maximum increase in net ROA (dependent variable) with the most efficient (optimal)
use of borrowed capital is achieved at the LEVopt point.
To assess the optimal share of borrowed capital for groups of enterprises, we add to model
3 the corresponding dummy variables and their product with LEV:
(1) agglo, LEV*agglo, LEV2*agglo–for enterprises located in agglomerations or other
regions, where agglo 5 1 if the enterprise located in agglomerations and agglo 5 0 if
the enterprise located in other regions;
(2) young, LEV*young, LEV2*young–for young and mature enterprises, where
young 5 1 if the enterprise belongs to young enterprises and young 5 0 if the
enterprise belongs to the mature enterprises;
(3) crisis, LEV*crisis, LEV2*crisis for crisis conditions non-crisis conditions, where
crisis 5 1 for the period 2014–2016 and crisis 5 0 for the period 2013, 2017.
If the LEV2*dummy variable is significant in the regression equation, then there are
significant differences between the optimal share of borrowed capital for the studied groups
of enterprises. Otherwise, the differences in the optimal share of borrowed capital between
groups of enterprises are insignificant.
To minimize the problems of multicollinearity, all independent variables and controls
(except the dummy variables) in regression models were standardized according to
Marquardt (1980).
Calculations were performed using the econometric package Stata.

No Variables Model 1 Model 2 Model 3

1 Size of enterprises (SIZE) þ þ þ

2 Share of fixed assets in total assets (FATA) þ þ þ
Table 3. 3 Current liquidity ratio (CACL) þ þ þ
Regression models and 4 Share of borrowed capital (LEV) þ þ
their variables 5 Square of the share of borrowed capital (LEV2) þ
3. Results and discussion Company
Models 1–3 for the full sample of enterprises are presented in Table 4. performance and
For Model 3, control variables exert a highly significant impact ROA:
optimal capital
(1) Positive impact–enterprise size (SIZE); structure
(2) Negative impact–the share of fixed assets in total assets (FATA).
We also note that the variable CACL has no significant effect on ROA.
In general, this is consistent with modern economic research. The size of the enterprise
generally has a positive effect on the ROA due to economies of scale. We found that the share
of fixed assets in total assets (FATA) negatively affects ROA. This conclusion is consistent
with the results obtained, in particular, in the paper of Vintila and Nenu (2015). In this work,
the authors found that the share of fixed assets in assets negatively affects both ROA and
ROE (Table 6, p. 737).
We can assume that fixed assets do not directly bring the company revenue, but
significantly increase the denominator in ROA. Therefore, their excess in assets leads to a
decrease in ROA. In some cases, from the point of view of increasing ROA, lease of fixed assets
may be more effective. This can be especially true for enterprises in high-tech service industries
(IT sector, research sector), which constitute a significant part of the analyzed sample.
Among the tested variables, the calculations show that all variables associated with
borrowed capital are highly significant and significantly improve the model (provide an
increase in R2 and fit statistics, i.e., improve the explanatory power of the regression model).
At the same time, the effect of LEV and LEV2 on the profitability is negative.
The negative coefficient of the variable LEV2 implies the existence of inverted U-shaped
relationship between capital structure and firm performance, consistent with our hypotheses,
which can be used to find the maximum of ROA. In this case, the maximum of ROA will exist
in any case, because the coefficient for the variable LEV2 is negative. The question remains at
what value (positive or negative) of the variable LEV maximum of ROA will be reached. At
the same time, we must take into account that the data on variables LEV and LEV2 were
standardized and we need to bring them to the actual initial data to formulate managerial
implications. Our corresponding calculations are given below.
3.1 Optimization of the share of borrowed capital based on a quadratic function
Based on model 3, we get the following regression equation:
ROA ¼ 12:26 þ 0:86 3 SIZE  4:40 3 FATA  0:07 3 CACL  7:49 3 LEV
 2:50 3 LEV2 (4)

Variables Model 1 Model 2 Model 3

SIZE 1.00*** (0.24) 1.30*** (0.21) 0.86*** (0.21)

FATA 2.67*** (0.23) 4.68*** (0.23) 4.40*** (0.23)
CACL 0.24 (0.17) 0.36* (0.15) 0.07 (0.15)
LEV 8.08*** (0.30) 7.49*** (0.29)
LEV 2
2.50*** (0.24)
Intercept 9.79*** (0.28) 9.77*** (0.25) 12.26** (0.34)
R2 (proj model) 0.028 0.142 0.167
Table 4.
ΔR 2
– 0.114 0.025 Regression results for
Fit statistics Wald chi (3) 5 160.83
2
Wald chi2(4) 5 792.25 Wald chi2(5) 5 862.58 the full sample of
p <0.001 <0.001 <0.001 enterprises (standard
Note(s): ***p < 0.001; **p < 0.01; *p < 0.05; p < 0.10 errors are shown in
Source(s): Calculated by the authors according to SPARK parentheses)
JES Variables Coef. Std. err.

SIZE 0.45 0.28

FATA 4.43*** 0.23
CACL 0.05 0.14
LEV 7.56*** 0.28
LEV2 2.32*** 0.24
LEVsize 0.53* 0.24
LEV2size 0.50* 0.22
Intercept 12.19*** 0.33
R2 0.168
Wald chi2(8) 947.35
Prob > chi2 < 0.001

Results for groups of enterprises Large firms (size 5 1) Small firms (size 5 1)
Table 5.
Regression results for LEVopt standardized 2.22 1.25
the large enterprises LEVopt initial data 8.77 19.98
and small enterprises ROA max initial data 21.60 16.13
(Prais–Winsten Note(s): ***p < 0.001; *p < 0.05; p < 0.10
regression) Source(s): Calculated by the authors according to SPARK

β5 at LEV2 < 0, therefore, we get an inverted U-shaped relationship between capital structure
and firm performance and can find the maximum ROA by the variable LEV.
We differentiate regression equation by variable LEV and get:
dROA
ROA’ ¼ ¼ −7:49  2 3 2:50 3 LEV (5)
dLEV
The maximum of a quadratic function, equating the derivative to zero: LEVopt
standardized 5 7.49/(2∙2.50) 5 1.498 (standardized value). Based on the data in
Table 2, we transform this result into the original scale:
LEVopt initial data ¼ LEVopt initial standardized 3 Standard deviation of LEV þ Mean of LEV
¼ −1:498 3 29:71 þ 57:10 ¼ 12:59 ÷ (6)

Since LEVopt initial data 5 12.59 > 0, then the maximum of net ROA (dependent variable) is
reached at the LEVopt point and is equal to:
ROAmax initial data ¼ −7:49 3 ð−1:498Þ  2:50 3 ð−1:498Þ2 þ 12:26 ¼ 17:87 ÷ (7)

In this calculation, we considered the constant (Intercept 5 12.26) and assumed that the other
variables take average values, which means their standardized values are equal to zero.
The graphic interpretation of these results is presented in Figure 1.
The results confirm hypotheses No 1 and No 2. It is shown that the optimal capital
structure exists for a full sample of enterprises of high-tech industries and services. Effective
management of the capital structure provides an opportunity to increase the net ROA by
17.87%. However, if the share of borrowed capital reaches 90% or more, this leads to negative
profitability, i.e. to losses by enterprises.

3.3 The optimal capital structure for groups of enterprises

Calculations for model 3 for the respective groups of enterprises of high-tech industries and
services are presented in Tables 5–7 and Figure 2–4.
Variables Coef. Std. err.
Company
performance and
SIZE 0.86*** 0.21 optimal capital
FATA 4.35*** 0.23
CACL 0.08 0.15 structure
LEV 7.35*** 0.33
LEV2 2.05*** 0.34
agglo 1.44* 0.68
LEV agglo 0.23 0.55
LEV 2agglo 0.99* 0.48
Intercept 11.64*** 0.41
R2 0.168
Wald chi2(8) 936.07
Prob > chi2 <0.001

Results for groups of enterprises Agglomeration Other regions

Number of enterprises/observations 806/4,030 1,020/5,100 Table 6.

Regression results for
LEVopt standardized 1.24 1.79
the enterprises located
LEVopt initial data 20.11 3.92 in agglomerations, and
ROA max initial data 17.79 18.22 enterprises located in
Note(s): ***p < 0.001; *p < 0.05; p < 0.10 other regions (Prais–
Source(s): Calculated by the authors according to SPARK Winsten regression)

The calculations confirm hypotheses No 3.1 and 3.2, but not 3.3. Thus, the optimal share of
borrowed capital is higher:
(1) At small businesses compared to large ones;
(2) At enterprises located in agglomerations, compared with enterprises located in other
regions;
At the same time, there is no statistical difference in this respect between young and mature
enterprises.

ROA depending on LEV

20
Full sample of high-tech enterprises
15
Net return on assets (ROA),%

10

-5
Figure 1.
The dependence of the
-10
firm performance from
the capital structure for
-15
high-tech enterprises
-2 -1.8 -1.6 -1.4 -1.2 -1.0 -0.8 -0.6 -0.4 -0.2 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0
(full sample)
Share of borrowed capital (LEV), standardized value
JES Prais–Winsten regression
Variables Coef. Std. err.

SIZE 0.97*** 0.21

FATA 4.14*** 0.23
CACL 0.08 0.14
LEV 7.09*** 0.30
LEV2 2.51*** 0.28
young 4.29*** 0.72
LEV young 1.86** 0.64
LEV2 young 0.24 0.48
Intercept 11.05*** 0.36
R2 0.175
Table 7. Wald chi2(8) 940.63
Regression results for Prob > chi2 <0.001
the young and mature Note(s): ***p < 0.001; **p < 0.01; p < 0.10
enterprises Source(s): Calculated by the authors according to SPARK

According to the calculations, efficient management of the capital structure allows

enterprises to increase ROA by 16–22%, which confirms hypothesis No 2. On the
contrary, a high share of borrowed capital (over 90% of total assets) leads to negative
profitability, i.e. to losses by enterprises.

3.4 The impact of the economic situation on the optimal capital structure for high-tech
enterprises
Calculations for model 3 for time periods of crisis conditions and non-crisis conditions are
presented in Table 8 and Figure 4.
The obtained results do not support hypothesis No 4. The optimal share of borrowed
capital in the crisis period is higher than in non-crisis conditions and the differences between
these periods are marginally significant (p < 0.10 for LEV 2 crisis variable). We also found
that the maximum possible increase in profitability for these periods is approximately the
same and amounts to 17.75–18.23%.
The summary of the obtained results and their comparison with the actual capital
structure for Russian enterprises of high-tech industries and services are given in
Table 9.
These data show that the actual share of borrowed capital of most high-tech enterprises
in Russia is much higher than optimal. In the full sample, only 264 enterprises out of 1,826
(14.4% of enterprises) had a share of borrowed capital of no more than 35% annually
during the study period and could ensure a significant increase in profitability due to
effective management of borrowed capital. At the same time, 491 enterprises out of 1,826
(26.9% of enterprises) had a share of borrowed capital of more than 65% annually during
the study period, which led annually to a substantial decrease in profitability (and to
negative profitability, i.e. to losses by enterprises) due to excessive use of borrowed
capital.
Our study confirms the Static Trade-off Theory. The quadratic function (LEV2) leads to
a significant increasing in the percentage of explained variation (R2) and variables with
borrowed capital (LEV, LEV2) are highly significant in all regression models. At the same
time, the calculated optimal shares of borrowed capital are low, and in some cases, they are
below zero. These results could be explained by the peculiarities of the Russian economy.
Russia is a country with a transition economy and high interest rates. The high interest
 ROA depending on LEV Company
25 performance and
20 optimal capital
structure
15

10

-5

-10
Figure 2.
The dependence of the
-15
firm performance from
the capital structure for
-20
-2 -1.8 -1.6 -1.4 -1.2 -1.0 -0.8 -0.6 -0.4 -0.2 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0
large and small
enterprises
Small firms Large firms

ROA depending on LEV

20

15

10

-5

-10
Figure 3.
The dependence of the
firm performance from
-15
the capital structure for
enterprises located in
-20
agglomerations and
-2 -1.8 -1.6 -1.4 -1.2 -1 -0.8 -0.6 -0.4 -0.2 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2
other regions
Non-agglomerated locaons Agglomeraons

rates undermine the positive effect of borrowed funds observed in the developed
economies. This is consistent with the works of Pathak (2011), Le and Phan (2017) and
others.
Existing studies are inconclusive with respect to the effect of borrowed capital on
profitability, and there are substantial differences in this relationship across countries and
industries. Many studies suggest the negative relationship (Kester 1986; Rajan and
Zingales, 1994; Chakraborty, 2010; Sial and Chaudhry, 2012; Gonz
alez, 2013; Ngoc Vy, 2016;
Vu and Phan, 2016; Habrosh, 2017; Spitsin et al., 2018). At the same time, other papers
(Roden and Lewellen, 1995; Abor, 2005; Chatterjee, 2012; Ajibolade and Sankay, 2013;
JES ROA depending on LEV
20

15

10

-5

-10
Figure 4.
The dependence of firm -15
performance on the
capital structure under
-20
conditions of crisis and -2 -1.8 -1.6 -1.4 -1.2 -1 -0.8 -0.6 -0.4 -0.2 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2
stability
Non-crisis condions Crisis condions

Variables Coef. Std. err.

SIZE 0.87*** 0.21

FATA 4.40*** 0.23
CACL 0.07 0.15
LEV 7.17*** 0.32
LEV2 2.19*** 0.27
crisis 0.72 0.38
LEVcrisis 0.62* 0.28
LEV 2crisis 0.50y 0.31
Intercept 11.86*** 0.37
R2 0.168
Wald chi2(8) 878.39
Prob > chi2 <0.001
rho 0.52

Results for groups of enterprises Crisis conditions Non-crisis conditions

Number of enterprises/observations 1,826/5,478 1,826/3,652

LEVopt standardized 1.45 1.64
Table 8.
Regression results for LEVopt initial data 14.04 8.33
the different time ROA max initial data 18.23 17.75
periods (Prais– Note(s): ***p < 0.001; *p < 0.05; yp < 0.10
Winsten regression) Source(s): Calculated by the authors according to SPARK

Negasa, 2013; Jain et al., 2017; Vaicondam and Ramakrishnan, 2017) revealed a positive
effect.
In this sense, our investigation of the curvilinear effect may suggest a way to reconcile
these contradictory findings. The inverted U-shaped relationship that we demonstrate
implies that there are intervals where the relationship is positive and where it is negative.
This may suggest that prior studies were empirically anchored in samples where one or the
other tail of the function prevailed. In our case, we found that a positive effect is only observed Company
when the share of the borrowed capital is relatively low (up to 20%). Beyond that point, an performance and
increase in the share of borrowed capital may exert negative influence on profitability.
Obviously, in other samples, the inflection point may occur at different levels of borrowed
optimal capital
capital. structure
We believe that the low level of borrowed capital at which maximum performance is
achieved may be due to the characteristics of the Russian economy described above. These
features can occur in developing countries and countries with transition economies as
explained by Pathak (2011) and Le and Phan (2017). Perhaps, it is safe to assume that in
developed economies with low interest rates the inflection point occurs at much higher values
of borrowed capital.
The results for groups of small and large enterprises are consistent with the work of
Ibhagui and Olokoyo (2018) and Vithessonthi and Tongurai (2015). Ibhagui and
Olokoyo (2018) noted that “the extent of positive or negative effect of leverage on firm
performance is mostly higher and more pronounced for small-sized companies in
comparison to large-sized companies”. Vithessonthi and Tongurai (2015) reveal that the
impact of leverage on performance is positive for small firms and negative for large
firms. According to our calculations, it is advisable for small enterprises in Russia to
increase the share of borrowed capital up to 20% in order to maximize profitability,
whereas large enterprises should avoid borrowed capital to maximize profitability
(negative impact of borrowed capital in the segment from 0 to 100%). Moreover, the
profitability of large enterprises in Russia is higher than that of small enterprises with
any share of borrowed capital.
According to Henderson (2003), we expected greater opportunities for increasing
profitability for enterprises located in agglomeration centers as compared to peripheral
regions. We found that for enterprises located in agglomerations using borrowed capital is a
viable strategy to maximize profitability, whereas for the peripheral enterprises this strategy
makes little sense. Interestingly, however, the maximum profitability is comparable across
these two groups of enterprises.
In contrast to the previous research (Opler and Titman, 1994), we found that crisis
conditions may be more forgiving of firms relying on borrowed funds. During the crisis, the
optimal share of borrowed capital increased to 14%, and the maximum profitability is
comparable to that achieved during periods of stability. We attribute this to the nature of our
sample. According to Varum et al., 2009, Lang et al., 2012, Czarnitzki and Susanne, 2012,
Brenner et al., 2017, and Li et al., 2017, high-tech industries maintain positive dynamics in
crisis conditions in developing countries. This was the case for enterprises in the
pharmaceutical industry, aircraft manufacturing, IT sector, etc. As a result, we observe an
increase in the optimal share of borrowed capital during the crisis period and profitability
compared to the periods of stability.

LEV actual
Group of enterprises Mean Median LEVopt initial data ROA max initial data

Full sample 57.10 57.83 12.26 17.87

Large and medium-sized 59.13 59.83 8.77 21.60 Table 9.
Small and micro 56.21 56.82 19.98 16.13 Comparison of optimal
Located in agglomeration 58.68 60.48 20.11 17.79 and actual shares of
Located in other regions 53.77 53.66 3.92 18.22 borrowed capital for
Crisis conditions (2014–2016) 58.58 59.81 14.04 18.23 high-tech
Non-crisis conditions (2013, 2017) 57.88 58.90 8.33 17.75 enterprises, %
JES 4. Conclusions
The research initiates the following conclusions:
(1) There exists the optimal capital structure that maximizes ROA in transition
economies. Generally, the optimal share of borrowed capital is in the range of 0–21%;
(2) The effective management of the capital structure allows increasing ROA;
(3) The optimal share of borrowed capital is higher:

At small businesses compared to large ones;

At enterprises located in agglomerations, compared with enterprises located in
other regions;
Crisis conditions somewhat relax the strain put on enterprises by the use of borrowed capital.
Nevertheless, the optimal share of borrowed capital remains low;
(4) A greater increase in profitability can be achieved by large firms compared to small
ones. We also found that high share of borrowed capital leads to negative profitability, i.e.
to losses by enterprises.
We have confirmed hypotheses 1, 2, 3.1. and 3.2., which correspond to the conclusions given
above. At the same time, hypothesis No 3.3. is not confirmed, since there are no significant
differences between young and mature companies. Their optimal capital structure and the
possibility of increasing profitability are comparable.
Hypothesis No 4 is not confirmed and is in fact rejected by our data. It was found that in a
crisis, the optimal share of borrowed capital is increasing and the possibility of increasing
profitability using borrowed capital remains at the same level. Thus, even during the crisis
period, the effective use of borrowed capital can increase the ROA by about 18%.
The scientific contribution of this study is that the calculations were made for a country
with a transition economy, which is in unstable (crisis) conditions. Countries with transition
economies and developing countries tend to be characterized by a high level of interest rates
on loans and a high proportion of borrowed capital in total assets. This situation could lead to
the absence of the optimal share of borrowed capital and the disadvantage of any amounts of
borrowed funds. However, we have shown that for countries with a transition economy (and
probably for developing countries), enterprises of high-tech industries do have the optimal
capital structure that allows maximizing firm performance. That is, Static Trade-off Theory
is also applicable to countries with a transition economy characterized by high interest rates
on loans. We also modeled the possibility of increasing profitability through effective capital
management in different groups of enterprises and depending on the economic situation.
At the same time, we have identified excessively high actual shares of borrowed capital
adopted by many enterprises in high-tech industries, which leads to a decrease in profitability
or even to negative profitability. These results emphasize the need for regulatory influence of
the state (federal and regional governments) on the capital structure of enterprises, the credit
market and the investment market. Regulation, in our opinion, should be implemented to
reduce interest rates on loans to firms and stimulate the development of other sources of
financing (the development of venture investment and the stock market).

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Further reading
Eurostat (2020), “High-Tech Industry and Knowledge-Intensive Services (htec) Reference Metadata in
Euro SDMX Metadata Structure (ESMS)”, available at: https://ec.europa.eu/eurostat/cache/
metadata/en/htec_esms.html.
Russian Federation (2018), “National classification of economic activities, “available at: http://www.
consultant.ru/document/cons_doc_LAW_163320/.
Statistical classification of economic activities in the European Community (NACE Rev. 2.2) (2019),
available at: https://ec.europa.eu/eurostat/documents/3859598/5902521/KS-RA-07-015-EN.PDF.

Corresponding author
Darko Vukovic can be contacted at: vdarko@hotmail.rs

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