Pecking Order Versus Trade-Off: An Empirical Approach to the Small and Medium Enterprise Capital Structure

Abstract

In this paper, we explore two of the most relevant theories that explain financial policy in small and medium enterprises (SMEs): pecking order theory and trade-off theory. Panel data methodology is used to test the empirical hypotheses over a sample of 6482 Spanish SMEs during the five year period 1994-1998. The results suggest that both theoretical approaches contribute to explain capital structure in SMEs. However, while we find evidence that SMEs attempt to achieve a target or optimum leverage (trade-off model), there is less support for the view that SMEs adjust their leverage level to their financing requirements (pecking order model).

Keywords: Pecking Order, Trade-off, Capital Structure, Small and Medium Enterprises, Panel Data

JEL Classification: C34, G32, G33