Do Firms Have Unique Target Debt Ratios to Which They Adjust?

38 Pages Posted: 29 May 2008 Last revised: 30 Mar 2010

See all articles by Armen Hovakimian

Armen Hovakimian

Baruch College - Zicklin School of Business

Guangzhong Li

Sun Yat-Sen Business School, Sun Yat-Sen University

Multiple version iconThere are 2 versions of this paper

Date Written: April 27, 2009

Abstract

The estimates of the speed of adjustment to target leverage tend to be significant but low. One interpretation for the slow adjustment is that firms fully adjust to target only infrequently, when the benefits of adjustment exceed its costs. Using both ex-ante and ex-post information to identify situations when the adjustment should be full, we find no evidence of full adjustment. We find that adjustments to target are rarely full, with many firms adjusting beyond or away from the target. The results imply that firms may have target ranges but no unique target debt ratios to which they ever want to fully adjust. One implication of this is that empirical analyses, such as partial adjustment regressions, that rely on the existence of a well-defined target debt ratio may be ill-suited for quantifying the importance of dynamic tradeoff behavior vis-a-vis alternative theories.

Keywords: target capital structure, target leverage, target adjustment, partial adjustment, speed of adjustment

JEL Classification: G32

Suggested Citation

Hovakimian, Armen and Li, Guangzhong, Do Firms Have Unique Target Debt Ratios to Which They Adjust? (April 27, 2009). Available at SSRN: https://ssrn.com/abstract=1138316 or http://dx.doi.org/10.2139/ssrn.1138316

Armen Hovakimian

Baruch College - Zicklin School of Business ( email )

One Bernard Baruch Way
Box B10-225
New York, NY 10010
United States
646-312-3490 (Phone)
646-312-3451 (Fax)

HOME PAGE: http://zicklin.baruch.cuny.edu/faculty-profile/armen-hovakimian/

Guangzhong Li (Contact Author)

Sun Yat-Sen Business School, Sun Yat-Sen University ( email )

135 Xingang Xi Road
Guangzhou, Guangdong 510275
China

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