Testing capital structure theories using error correction models: Evidence from China, India, and South Africa

Figures & data

Table 1. Descriptive statistics

Variables	Observations	Min	Max	Mean	SD
Panel A: Chinese Firms
Market leverage	5053	0.013	0.731	0.398	0.283
Collateral value of assets	5053	0.001	0.965	0.346	0.195
Non-debt tax shields	5053	0.000	0.071	0.023	0.014
Profitability	5053	−0.085	0.235	0.072	0.049
Growth opportunities	5053	0.364	4.558	1.846	1.015
Size	5053	17.240	24.320	19.950	1.133
Cash-flow deficit	5053	−0.465	0.325	−0.078	0.116
Panel B: Indian Firms
Market leverage	6008	0.004	0.841	0.514	0.851
Collateral value of assets	6008	−0.083	0.946	0.369	0.187
Non-debt tax shields	6008	−0.029	0.093	0.030	0.017
Profitability	6008	−0.152	0.363	0.102	0.074
Growth opportunities	6008	0.041	2.299	0.907	0.625
Size	6008	14.960	24.060	18.830	1.382
Cash-flow deficit	6008	−0.539	0.361	−0.111	0.124
Panel C: South African Firms
Market leverage	1126	0.007	0.536	0.273	0.432
Collateral value of assets	1126	0.000	0.980	0.343	0.227
Non-debt tax shields	1126	0.000	0.107	0.032	0.021
Profitability	1126	−0.128	0.468	0.153	0.093
Growth opportunities	1126	0.194	3.191	1.241	0.779
Size	1126	13.760	23.140	19.240	1.725
Cash-flow deficit	1126	−0.591	0.238	−0.166	0.124

Notes The table provides the descriptive statistics for all the variables defined in this study.

Table 2. Target leverage estimation for market leverage

Variables	China	India	South Africa
Collateral value of assets	0.079*	0.056	0.014
	(0.046)	(0.148)	(0.083)
Non-debt tax shields	−0.874*	1.338	1.197
	(0.512)	(1.140)	(0.881)
Profitability	−0.551**	−0.932**	−0.231
	(0.107)	(0.193)	(0.174)
Growth opportunities	−0.151**	−0.716**	−0.321**
	(0.005)	(0.032)	(0.027)
Size	0.061**	0.098**	0.019
	(0.005)	(0.028)	(0.017)
Estimator	FE	FE	FE
Observations	5053	6008	1126
R^2	0.49	0.315	0.393
Adjusted R^2	0.45	0.28	0.358
No. of firms	412	675	96

Notes: The table reports the regression result for target leverage using Equation 3(3) $$D_{\text{it}}^{\ast }={\alpha }_i+b_1{\text{CVA}}_{\text{it}}+b_2{\text{NDTS}}_{\text{it}}+b_3{\text{profitability}}_{\text{it}}+b_4{\text{GO}}_{\text{it}}+b_5{\text{Size}}_{\text{it}}+e_{\text{it}}$$(3) . FE means the fixed-effects (within-group) estimator. Robust standard errors are in the parenthesis.

* Denotes the significance at 10% level.

** Denotes the significance at 1% level.

Table 3. Testing of trade-off theory by partial adjustment model

Variables	China			India			South Africa
	1	2	3	4	5	6	7	8	9
TLD	0.327*	0.971*	0.061*	0.339*	0.774*	0.275*	0.308*	0.694*	0.067*
	(0.008)	(0.019)	(0.004)	(0.009)	(0.026)	(0.019)	(0.017)	(0.046)	(0.012)
Constant	−0.143*			0.028*			0.167*
	(0.004)			(0.006)			(0.012)
Estimator	AH	GMM	SYSGMM	AH	GMM	SYSGMM	AH	GMM	SYSGMM
Observations globally	5053	5053	5053	6008	6008	6008	1126	1126	1126
No. of firms	412	412	412	675	675	675	96	96	96
AR2 test		−6.819	−5.672		−1.556	1.532		0.310	1.404
Sargan test		177.215	328.545		200.994	268.781		79.728	86.597

Notes: This table reports the results of partial adjustment model specified by Equation 2(2) $$\mathrm{\Delta }{D}_{\text{it}}=a+b{\text{TLD}}_{\text{it}}+e_{\text{it}}$$(2) . AR2 tests for the second-order autocorrelation. Sargan test is a test for over-identification in model specification. Robust standard errors are in the parenthesis.

* Denotes the significance at 1% level.

Table 4. Testing of trade-off theory by error correction model

Variables	China			India			South Africa
	1	2	3	4	5	6	7	8	9
TLC	0.899*	1.076*	1.088*	0.882*	0.999*	0.993*	0.908*	0.936*	0.918*
	(0.016)	(0.030)	(0.045)	(0.020)	(0.052)	(0.064)	(0.039)	(0.083)	(0.107)
LECM	0.164*	0.708*	0.019*	0.223*	0.608*	0.168*	0.193*	0.537*	0.048*
	(008)	(0.029)	(0.002)	(0.009)	(0.034)	(0.014)	(0.017)	(0.042)	(0.009)
Constant	−0.075*			0.021*			0.103*
	(0.004)			(0.006)			(0.011)
Estimator	AH	GMM	SYSGMM	AH	GMM	SYSGMM	AH	GMM	SYSGMM
Observations globally	5053	5053	5053	6008	6008	6008	1126	1126	1126
No. of firms	412	412	412	675	675	675	96	96	96
AR2 test		−5.021	−3.393		0.409	2.505		0.310	1.404
Sargan test		276.045	321.241		259.638	322.664		79.728	86.597
F-test	1683.2*	384.183*	1079.034*	937.410*	334.034*	247.218*	272.530*	10.479*	183.038*

Notes: This table reports the results of error correction model specified by Equation 4(4) $$\mathrm{\Delta }{D}_{\text{it}}=a+b_0{\text{TLC}}_{\text{it}}+b_1{\text{LECM}}_{\text{it}}+u_{\text{it}}$$(4) . AR2 tests for the second-order autocorrelation. Sargan test is a test for over-identification in model specification. F-test is under the null that the coefficient on TLC_it and LECM_it are equal. Robust standard errors are in the parenthesis.

* Denotes the significance at 1% level.

Table 5. Testing of pecking order theory: Fixed effects estimation

Variables	China	India	South Africa
CFD	0.084**	0.157*	0.043
	(0.025)	(0.080)	(0.117)
Estimator	FE	FE	FE
Observations	5053	6008	1126
R^2	0.002	0.001	0.0003
No. of firms	412	675	96
F-test	1293.9**	128.9**	133.23**

Notes: This table reports the results of pecking order theory specified by Equation 5(5) $$\mathrm{\Delta }{D}_{\text{it}}=a+b{\text{CFD}}_{\text{it}}+e_{\text{it}}$$(5) . F-test is under the null that the coefficient on CFD_it is equal to 1. Robust standard errors are in the parenthesis.

* Denotes the significance at 5% level.

** Denotes the significance at 1% level.

Table 6. Testing of trade-off theory & pecking order theory by augmented partial adjustment model

Variables	China			India			South Africa
	1	2	3	4	5	6	7	8	9
TLD	0.322*	0.952*	0.170*	0.351*	0.745*	0.297*	0.311*	0.648*	0.211*
	(0.008)	(0.019)	(0.011)	(0.009)	(0.025)	(0.019)	(0.018)	(0.047)	(0.026)
CFD	0.126*	0.055	0.741*	0.454*	1.005*	0.141	0.080	−0.023	−0.633*
	(018)	(0.092)	(0.067)	(0.048)	(0.224)	(0.101)	(0.055)	(0.128)	(0.101)
Constant	−0.136*			0.078*			0.182*
	(0.005)			(0.008)			(0.015)
Estimator	AH	GMM	SYSGMM	AH	GMM	SYSGMM	AH	GMM	SYSGMM
Observations globally	5053	5053	5053	6008	6008	6008	1126	1126	1126
No. of firms	412	412	412	675	675	675	96	96	96
AR2 test		−6.654	−5.685		−1.569	1.473		0.509	1.576
Sargan test		263.264	349.981		273.364	370.951		91.922	96
F-test	2325.3*	886.475*	223.712*	129.93*	43.073*	97.395*	277.12*	85.064*	346.81*

Notes: This table reports the results of trade-off theory and pecking order theory tested by augmented partial adjustment model that is modeled by Equation 7(7) $$\mathrm{\Delta }{D}_{\text{it}}=a+b_0{\text{TLD}}_{\text{it}}+b_1{\text{CFD}}_{\text{it}}+u_{\text{it}}$$(7) . AR2 tests for the second-order autocorrelation. Sargan test is a test for over-identification in model specification. F-test is under the null that the coefficient on CFD_it is equal to 1. Robust standard errors are in the parenthesis.

* Denotes the significance at 1% level.

Table 7. Testing of trade-off theory & pecking order theory by augmented error correction model

Variables	China			India			South Africa
	1	2	3	4	5	6	7	8	9
TLC	0.896**	1.058**	1.064**	0.881**	0.927**	0.930**	0.908**	0.904**	0.890**
	(0.016)	(0.029)	(0.043)	(0.019)	(0.041)	(0.051)	(0.039)	(0.080)	(0.098)
LECM	0.168**	0.693**	0.044**	0.234**	0.596**	0.176**	0.194**	0.495**	0.116**
	(0.008)	(0.027)	(0.007)	(0.009)	(0.032)	(0.015)	(0.017)	(0.042)	(0.019)
CFD	0.050*	0.029	0.16**	0.368**	0.840**	0.109	0.045	−0.038	−0.332**
	(0.016)	(0.065)	(0.042)	(0.045)	(0.206)	(0.057)	(0.049)	(0.102)	(0.063)
Constant	−0.072**			0.062**			0.112**
	(0.004)			(0.007)			(0.014)
Estimator	AH	GMM	SYSGMM	AH	GMM	SYSGMM	AH	GMM	SYSGMM
Observations globally	5053	5053	5053	6008	6008	6008	1126	1126	1126
No. of firms	412	412	412	675	675	675	96	96	96
AR2 test		−4.938	−3.412		0.200	2.376		0.504	0.845
Sargan test		344.844	375.735		331.142	401.933		96	98
F-test 1	1632**	354.109**	1034.455**	912.04**	235.920**	214.405**	270.67**	8.237**	149.996**
F-test 2	3583.6**	1068.969**	902.689**	199.73**	11.93**	88.307**	370.12**	97.183**	315.981**

Notes: This table reports the results of trade-off theory and pecking order theory tested by augmented error correction model that is modeled by Equation 8(8) $$\mathrm{\Delta }{D}_{\text{it}}=a+b_0{\text{TLC}}_{\text{it}}+b_1{\text{LECM}}_{\text{it}}+b_2{\text{FCF}}_{\text{it}}+u_{\text{it}}$$(8) . AR2 tests for the second-order autocorrelation. Sargan test is a test for over-identification in model specification. F-test 1 is under the null of no difference, TLC_it = LECM_it. F-test 2 is under the null that the coefficient on CFD_it is equal to 1. Robust standard errors are in the parenthesis.

* Denotes the significance at 5% level.

** Denotes the significance at 1% level.

Table 8. Target leverage estimation for book leverage

Variables	China	India	South Africa
Collateral value of assets	0.052	0.057	0.100
	(0.036)	(0.045)	(0.061)
Non-debt tax shields	0.408	2.080**	0.954*
	(0.398)	(0.356)	(0.401)
Profitability	−20.425**	−0.387**	−0.226*
	(0.088)	(0.054)	(0.099)
Growth opportunities	−0.016**	0.025**	0.001
	(0.003)	(0.006)	(0.008)
Size	0.048**	0.041**	0.010
	(0.004)	(0.007)	(0.012)
Estimator	FE	FE	FE
Observations	5053	6008	1126
R^2	0.201	0.101	0.058
Adjusted R^2	0.184	0.09	0.053
No. of firms	412	675	96

Notes: The table reports the regression result for target leverage for book leverage using Equation 3(3) $$D_{\text{it}}^{\ast }={\alpha }_i+b_1{\text{CVA}}_{\text{it}}+b_2{\text{NDTS}}_{\text{it}}+b_3{\text{profitability}}_{\text{it}}+b_4{\text{GO}}_{\text{it}}+b_5{\text{Size}}_{\text{it}}+e_{\text{it}}$$(3) . FE means the fixed-effects (within-group) estimator. Robust standard errors are in the parenthesis.

* Denotes the significance at 5% level.

** Denotes the significance at 1% level.

Table 9. Testing of trade-off theory & pecking order theory by augmented error correction model of book leverage

Variables	China			India			South Africa
	1	2	3	1	2	3	1	2	3
TLC	0.827**	0.601**	0.529**	0.566**	0.642**	0.343*	0.713**	0.519**	0.639*
	(.041)	(0.102)	(0.119)	(0.034)	(0.108)	(0.127)	(0.109)	(0.189)	(0.199)
LECM	0.072**	0.294**	−0.003	0.056**	0.413**	0.054**	0.099**	0.396**	0.112**
	(0.005)	(0.038)	(0.005)	(0.004)	(0.034)	(0.008)	(0.013)	(0.051)	(0.019)
CFD	−0.003	−0.136**	−0.104**	0.057**	0.045	0.082**	−0.012	−0.039	−0.002**
	(0.008)	(0.029)	(0.026)	(0.007)	(0.038)	(0.023)	(0.018)	(0.063)	(0.057)
Constant	−0.029**			−0.004*			0.022**
	(0.002)			(0.001)			(0.005)
Estimator	AH	GMM	SYS-GMM	AH	GMM	SYS-GMM	AH	GMM	SYS-GMM
Observations globally	5053	5053	5053	6008	6008	6008	1126	1126	1126
No. of firms	412	412	412	675	675	675	96	96	96
AR2 test		0.434	0.538		0.388	−0.054		−1.350	−0.815
Sargan test		333.595	353.818		285.079	334.969		96	97
F-test 1	327.18**	83.323**	164.313**	226.03**	1.802	85.365**	31.338**	19.714**	48.161**
F-test 2	13,430**	4694.16**	4174.371**	15,986**	4639.119**	5195.468**	3128.4**	839.516**	1763.903**

Notes: This table reports the results of trade-off theory and pecking order theory tested by augmented error correction model of book leverage that is modeled by Equation 8(8) $$\mathrm{\Delta }{D}_{\text{it}}=a+b_0{\text{TLC}}_{\text{it}}+b_1{\text{LECM}}_{\text{it}}+b_2{\text{FCF}}_{\text{it}}+u_{\text{it}}$$(8) . AR2 tests for the second-order autocorrelation. Sargan test is a test for over-identification in model specification. F-test 1 is under the null of no difference, TLC_it = LECM_it. F-test 2 is under the null that the coefficient on CFD_it is equal to 1. Robust standard errors are in the parenthesis.

* Denotes the significance at 5% level.

** Denotes the significance at 1% level.