Determinants of Capital Structure: Evidence from the UK

2020-05-01T09:55:04Z (GMT) by Sarah ALmuaither Mahmoud Marzouk
This study investigates the determinants of capital structure of UK firms by using the ordinary least squares (OLS) estimation with six independent variables including company size, profitability, tangibility, growth opportunities, tax, and volatility, as well as four industry classification dummy variables and with financial leverage as the dependent variable. The data set for the research includes all FTSE 100 companies in 2016. The findings reveal (i) a positive but insignificant relationship between company size and leverage; (ii) a negative but insignificant association between profitability and leverage; (iii) level of tangible assets and leverage are negatively related but such negative relationship is not significant; (iv) growth opportunities and leverage are negatively correlated and the negative relationship is highly statistically significant; (v) tax and leverage are positively related but the relationship is not statistically significant; and (vi) volatility and leverage are negatively related but the relationship is not statistically significant. The significant negative relationship between industry dummies and leverage is related to companies in the mining industry that did not use much debt to finance their business compared to those in other industries. Among five different capital structures, the pecking order theory indicates that companies prefer employing internal fund such as retained earnings or excess liquid assets to external finance investment opportunities, which seems to be suitable for UK companies. Static trade off theory which addresses the existence of optimal capital structures of firms affected by the trade-off between costs and benefits when using debt and equity is only applicable in particular cases in the UK. Dynamic trade off theory that argues that the appropriate financing choice typically relies on the financing margin that is estimated in the coming period, and market timing theory which demonstrates that stock price fluctuations in the market influence companies’ capital structure, are not supported by the findings of this study.