SULEIMAN, Hamisu Kargi PhD/ADMIN/11934/2008-2009


Successful firms usually achieve growth through increase in sales which requires the support of increased investments. To achieve expected growth a firm has to raise funds through various sources and the financial manager should decide when, where and how to acquire such funds to meet investment need. Decisions must be made about the use of internal or external funds, the use of debts or equity and the use of short-term or longterm financing and/or their combination.

It can either issue a large amount of debt or it can issue very little debt. . the optimal capital structure is the set of proportions that maximizes the total value of the firm. A firm can choose among many alternative capital structures.    Capital structure represents the mix of the various debt and equity used in financing firm’s operation. However. Therefore. decisions concerning the proportion of debt and equity are quite challenging for the management of a firm because a wrong decision may lead to financial distress and eventually to bankruptcy.

   A number of theories have been advanced in explaining the capital structure of firm. the total value of the firm and its cost of capital are independent of capital structure. . Since the seminal Modigliani and Miller (1958) irrelevance propositions. The theory of capital structure was earlier developed by Modigliani and Miller (1958). financial economists have developed a number of theories in which the capital structure choice becomes relevant. They argue that in the absence of corporate taxes and other market imperfections.

The theory predicts a strict preference of corporate financing. . then by lowrisk debt and hybrid securities such as convertibles. and equities as the last resort. in which investments are financed by internal funds first.  The pecking order theory developed by Myers and Majluf (1984) and Myers (1984) does not predict an optimal capital structure.

2005 and Strebulaev. 1984. based on research on taxes (Modigliani and Miller. 2007). 1963) and bankruptcy and financial distress costs (Warner. Leary and Roberts. 1976).. suggests that firms have a unique optimal capital structure that balances between the tax advantage of debt financing (i. The trade-off theory. . 1977) and the insights from the agency literature (Jensen and Meckling.e. debt tax shields). the costs of financial distress and the agency benefits and costs of debt (Bradley et al.

and prefer debt vice versa. . As claimed by its proponents in the United States between 1968 and 1999. Market timing is another theory of capital structure brought up by Baker and Wurgler (2002). Baker and Wurgler find out that firms prefer external equity when the cost of equity is low.

. However. This might be because the study is testing one theory against the other and is cross sectional in nature. the result is inconclusive about which of the two theories exerts the most dominant effect on the capital structure of Nigerian quoted firms during the period of the study.   In Nigeria Adesola (2009) tested the static trade off theory against pecking order theory and establish the presence of pecking order theory.

   Despite these theoretical appeals to capital structure. academicians and researchers have not yet agreed on specific method that corporate managers can use in order to attain an optimal capital structure. How successful are these theories in explaining the time-series patterns of financing activities? . This may be because of the fact that theories of capital structure differ in their relative emphases. For example. the trade-off theory emphasizes taxes and the pecking order theory emphasizes information asymmetry.

  The lack of footing for predicting the long run effect of a specific financing mix makes the financial decision more difficult in many ways than both the investment and dividend decisions. Does the pecking order theory explain the capital structure of Nigerian corporations? Which financing option best explain the capital structure decisions in Nigeria? .

The study primarily addresses the issue of how robust the pecking order hypothesis is in explaining capital structure of conglomerate firms in Nigeria. .   The purpose of the study is to examine the evidence of the pecking order hypothesis. It was hypothesised that pecking order theory has no significant impact in explaining the capital structure of conglomerate firms in Nigeria.

Baskin (1989) and Shyam-Sunder and Myers (1999) tested a number of predictions of the pecking order hypothesis and argued that their results were consistent with the theory. Sheikh and Wang (2010) and Chang et al (2010) are in support of the theory. the findings of Adesola (2009).  Some studies have examined how well the pecking order hypothesis actually fit. Moreover. .

. For example. Fama and French (2005) examined many individual financing decisions of firms and find that these decisions are often in conflict with many of the important predictions of the pecking order hypothesis. However. yet Fama and French observe that most firms issue some sort of equity every year. equity is supposed to be the last financing alternative.

Data collected include total asset. The firms selected have sufficient data for the study. equity.   The study utilises data from secondary sources (Fact Books and annual reports) in respect of six firms quoted as conglomerate on the Nigerian Stock Exchange. debt and preceding year retained earnings of the sampled firms which relate to eight years financial periods from 2002 to 2009. .

.  The study adopts Watson and Wilson (2002) model in analysing the data collected. The model was based on Ordinary Least Square (OLS) method in estimating the parameter of the model. Watson and Wilson (2002) use the model to provide the evidence to support the Pecking Order theory.

(TAit -TAit-1)/TAit-1 = Σβ + β1(Pit -Divit-1)/TAit-1 + β2(Dit -Dit-1)/TAit-1 + β3(EIit)+vit  . The model specify that. TA=f(RE. Debt and Equity) The model is thus.

the following relationship should be observe for β. and equity issuance falling at the bottom. If the theory holds. which is β1>β2>β3. This relationship might imply that the source of financing has a priority: first from a firm’s retained earnings. then debt issuance.  .

695 .033  The result estimated multiple regression model of total asset growth thus. The result shows the coefficient of new equity issuance (EQ) [1.378 .050 .416 t -.378(Pit -Divit-1)/TAit-1 + 0.395 2.297 .678 .611(Dit -Dit1)/TAit-1 + 1.162 .611 1.Model 1 (Constant) RetainedEarnings Debt Equity Unstandardized Coefficients B Std.361 .174 . .   .923 .678(EIit)+vit The observed relationship for β in the result shows that β3>β1>β2.678] is larger than the slope coefficients of retained earnings (RE) [0. Error -.611].545 .378] and debt issuance (D) [0.162 + 0.  (TAit -TAit-1)/TAit-1 = -0.760 Standardized Coefficients Beta .409 .207 Sig.547 1.589 .

6% variations in the observed behaviour of the total asset growth is jointly explained by all the three explanatory (independent). .559 a . Predictors: (Constant). The result of the estimates is therefore reliable for prediction and need no transformation of the original model.967 a.2% or exactly 26.266 Std. Equity. Error of the Estimate 1. The DW statistic is 1.0 indicates that there is no first order autocorellation. RetainedEarnings   the coefficient of multiple determination R2 (adjusted R2) of 0.Model 1 R R Square .46798 DurbinWatson 1. approximately 2. either positive or negative.266) indicates that about 31.312 Adjusted R Square . Debt.312 (0.967.

e 6.664 > 4.statistic is greater than the table F. therefore this shows the regression is significant at 1% level.818 137.Model 1 Regression Residual Total Sum of Squares 43. Equity.31).155 F 6.362 2. Predictors: (Constant). RetainedEarnings   The calculated F. the null hypothesis which state that pecking order theory has no significant impact in explaining the capital structure of conglomerate firms in Nigeria is rejected.085 94. Base on the findings. .statistic (i. . Debt.664 Sig.903 df 3 44 47 Mean Square 14.001 a a.

 The analysis though has overall significance indicate that only equity tracks the firm’s financing deficit better than retained earnings and debt. The findings contradict the pecking order theory developed by Myers and Majluf (1984) in predicting the capital structure of conglomerate firms in Nigeria. . Equity has the most significant coefficient in the model.

However. the opposite of what would be expected under the hypothesis. Firms in this sector finance their deficit mainly with equity issuance.  The findings of the study did not support the pecking order hypothesis as the primary financing theory for conglomerate firms in Nigeria. due to information asymmetry Nigerian investors prefer immediate return in form of dividend than having earnings retained to finance future expansion . This choice exposes the firms to certain risk such as dilution of ownership.

Sheikh and Wang (2010) and Chang et al (2010). .  The study support the position of Fama and French (2005) that most firms issue some sort of equity every year The result of the study contradicts the findings of Shyam-Sunder and Myers (1999). Adesola (2009).

  Base on the findings. The findings contradict the theory. it can be concluded that the explanatory variables have good description of financing policies of conglomerate firms in Nigeria and has significant impact to the growth of the firms but not in accordance with the pecking order theory. . shareholders should be enlightened on the importance of having earnings retained given that it is the cheapest means of financing and without external scrutiny. In accordance with this conclusion.

Capital market in Nigeria should be restructured for channelling debt capital at low cost and. This will eliminate imperfections. investors and the market. proper corporate governance is needed to avoid agency problems as a result of information asymmetry.  However. improve investors’ confidence and integrity of the system. to remove information asymmetries between firm managers. .


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