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Revisiting the Negative Profitability Effect on Capital Structure: Pecking-Order or Trade-Off Hypothesis

Author

Listed:
  • I.-Hsiang Huang

    (Department of Finance, National University of Kaohsiung, No. 700, Kaohsiung University Road, Nan-Tzu District, Kaohsiung, Taiwan)

  • Andy Chien

    (Department of Money and Banking, National Kaohsiung University of Science and Technology, Kaohsiung, Taiwan)

  • Liang-Chien Lee

    (Department of Finance, I-Shou University, Kaohsiung, Taiwan)

  • I.-Hui Wu

    (Department of Finance, National University of Kaohsiung, Kaohsiung, Taiwan)

Abstract

This paper investigates the empirical relationship between profitability and leverage ratios using a sample of Taiwan-listed firms. Like the U.S. evidence, we do find such a negative profitability-leverage relationship for the full sample. Although the profitability effect is still negative for passive firms that do not issue any security, it is positive for firms that issue both equity and debt but do not invest in fixed assets. Furthermore, while the dual issuers without investment adjust their leverages toward their targets the fastest, passive firms do so the slowest. Overall, our results on the profitability effect on leverage are consistent with the dynamic trade-off hypothesis that accounts for costly adjustments.

Suggested Citation

  • I.-Hsiang Huang & Andy Chien & Liang-Chien Lee & I.-Hui Wu, 2024. "Revisiting the Negative Profitability Effect on Capital Structure: Pecking-Order or Trade-Off Hypothesis," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 27(03), pages 1-30, September.
    • Handle: RePEc:wsi:rpbfmp:v:27:y:2024:i:03:n:s0219091524500188
    DOI: 10.1142/S0219091524500188
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    More about this item

    Keywords

    Trade-off hypothesis; pecking-order hypothesis; capital structure; profitability; speed of adjustment; Taiwan stock market;
    All these keywords.

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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