Testing the trade-off theory and the pecking order theory of capital structure, ecuadorian evidence

Abstract

This paper investigates if industrial companies, especially food & beverage divided into food processing and raw materials, listed on the Guayaquil Stock Exchange from 2011 to 2015 chose their capital structure based on the Trade-off theory and the Pecking Order Theory. The sample consisted of 11 companies. For the trade-off theory, the optimal capital structure was discovered. Food processing companies tend to be underleveraged whereas raw material companies are overleveraged. For the Pecking order theory, the order of preference for financing their assets was evaluated such as: first of all, retained earnings after that, debt and finally, equity. In addition, their retained earnings were considered. Most of the companies preferred to issue debt. The free-cash-flow method was used for this study in order to discover company’s value. Analyzed companies did not consider both theories, instead they considered the Guayaquil Stock Exchange policy and their own policies. However, the studied theories must be taken into account in order to maximize company’s value and to reduce costs