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The determinants of the capital structure

From chapter five, we concluded that the best model that explains the determinants of the capital structure choice is the Fixed Effects Model because of the R squared and F test. In this chapter we will be relating our findings from chapter five of the relationship of size, growth, risk, profitability and tangibility with debt ratio to the empirical studies which have been discussed earlier in chapter two. In addition, we will sum up the conclusion for our study and recommend further research topics for researchers interested in the subject determinants of capital structure choice. 6. 2 Size

The result of the relationship between size and debt ratio confirms with the results of Al-Sakrn (2001), Artyeetey (1994), Barclay and Smith (1996), Barton et al. (1989), Cassar and Holmes (2003), Friend and Lang (1988), Hovakimian (2004), Kim et al. (1998), Mackie-Mason (1990), Marsh (1982), Rajan and Zngales (1995). All of these researchers concluded the the relationship between the quantities is positive. This result implies that larger firms utilize more debt in financing their business. Moreover, it might also indicate that they are well diversified and have low earnings volatility.

6. 6 Profitability The negative relationship between debt ratio and profitability is similar to

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the results obtained by Barton et al. (1989), Chittenden et al. (1996), Friend and Lang (1988), Jordan et al. (1998), Michaelas et al. (1999), Mishra and McConaughty (1999), Shyam-Sunder and Myers (1999), Van der Wijst and Thurik (1993). This relationship implies that profitable firms tend to use their internally generated funds rather than external financing because internally generated funds are cheaper and have no information asymmetry.

The Pecking Order Theory supports this negative relationship. In addition, the underdevelopment of the bonds market in Kuwait might also be one of the probable reasons for this negative relationship. 6. 5 Tangibility The positive results of the relationship between tangibility and debt ration in the fixed effects model is similar to the results that were found by Bradley et al. (1984), Friend and Lang (1988), Hovakimian et al. (2004), Mackie-Mason (1990), Rajan and Zingales (1995), Shyam-Sunder and Myers (1999), Wedig et al.

(1988). This relationship indicates that firms’ tangible assets are used as a collateral when they obtain credit. 6. 3 Growth Although the relationship between growth and debt ratio is significantly related in the OLS and REM models, it is insignificantly related in the FEM. This may mean that growth opportunities are not an important factor in determining the capital structure choice of the non-financial firms in Kuwait. 6. 4 Risk The relationship between risk and debt ratio was insignificant in all the models we run.

This implies that risk is not an important variable in determining the capital structure choice of the non-financial firms in Kuwait. 6. 5 Conclusion Capital structuring decisions are an important one undertaken by managers of firms because of their relationship with the value of the firm and the cost of capital for financing projects. Bankruptcy cost, agency cost, the Pecking Order Theory and the Static Trade Theory are four theories used to describe the capital structure decision undertaken by firms.

Most of the previous studies conducted in the developed countries have tested the relationship of debt ratio with many other factors to determine the capital structure choice empirically. However, studies related to developing countries such as Kuwait are few and rare. We examined the determinants of the capital structure choice for 55 non-financial firms listed on the Kuwait Stock Exchange from the period 2003 to 2007 using debt ratio as dependent variable and risk, growth, size, tangibility and profitability as independent variables.

Three models of Panel data regression were obtained – which are OLS, FEM and REM – to clarify the relationship of the dependent variable with the regresses. We concluded that FEM is the best model that describes this relationship. Moreover, at 5% level of significance, we find that size and tangibility are significantly positively related to debt ratio while tangibility is significantly negatively related. Growth and risk are the only variables that are insignificantly related to debt ratio.

6. 6 Further Researches and studies We recommend for researchers interested in the topic of determinants of the capital structure choice of firms to conduct their future researches and studies under the following subjects: • The determinants of the capital structure choice of the financial firms. • The determinants of the capital structure choice of the financial or non-financial firms using macroeconomic factors such as inflation, GDP, and interest rates.

• The determinants of the capital structure choice of the financial or non-financial firms using corporate governance factors such as board size, board composition, and CEO/Chairman duality. • The determinants of the capital structure choice of the financial or non-financial firms by measuring the relationship between factors we applied in this study with short-term and long-term debt ratios. • Comparison between the determinants of the capital structure choice in the financial firms with the non-financial firms.

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