Rational Financial Management: Evidence from Seasoned Equity Offerings

41 Pages Posted: 19 Mar 2008 Last revised: 15 Feb 2014

See all articles by Michael J. Barclay

Michael J. Barclay

University of Rochester - Simon School (Deceased)

Fangjian Fu

Singapore Management University - Lee Kong Chian School of Business

Clifford W. Smith

Simon Graduate School of Business, University of Rochester

Date Written: March 19, 2012

Abstract

Current theories of capital structure have difficulty explaining the aspects of financing behavior we document. In contrast to the tradeoff theory, seasoned equity offers frequently move firms away from their target leverage ratios. At odds with the pecking-order theory, SEO firms typically are financially healthy companies with low leverage, unused debt capacity and substantial cash balances. Inconsistent with the market-timing theory, SEOs appear to be driven by capital requirements associated with large investment projects rather than by market-timing considerations. Moreover, firms issue debt following SEOs, not only to finance investment, but to increase leverage toward its target level. Each of these theories assumes some degree of myopia among financial managers. We propose that CFOs manage their capital structures rationally rather than myopically. They consider the firm’s current and target leverage, investment opportunities and long-term capital requirements, as well as the costs and benefits of alternative sequences of financing transactions. This framework, which we term rational financial management, better explains the financing and leverage behavior of SEO firms.

Keywords: Capital Structure, Seasoned Equity Offerings, Tradeoff, Pecking-order, Market-timing

JEL Classification: G32

Suggested Citation

Barclay, Michael J. and Fu, Fangjian and Smith, Clifford W., Rational Financial Management: Evidence from Seasoned Equity Offerings (March 19, 2012). AFA 2010 Atlanta Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1099850 or http://dx.doi.org/10.2139/ssrn.1099850

Michael J. Barclay

University of Rochester - Simon School (Deceased)

N/A

Fangjian Fu (Contact Author)

Singapore Management University - Lee Kong Chian School of Business ( email )

50 Stamford Road
Singapore, 178899
Singapore

Clifford W. Smith

Simon Graduate School of Business, University of Rochester ( email )

Carol Simon Hall 3-202C
Rochester, NY 14627
United States
585-275-3217 (Phone)
585-442-6323 (Fax)

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