Non-linear relationship between capital structure and firm value nexus: an empirical study in Egyptian capital market

Abstract EN

This paper sheds light to the non-linear relationship between leverage and firm performance in the Egyptian capital market.

To do this, Egyptian listed firms observed over the period 2010-2019 are exploited, totalling 780 observations.

Using a system GMM estimator and quadratic regression, a U-shaped relationship between leverage and the performance of Egyptian firms was found.

This result is described by the fact that there is an optimal threshold of leverage on firm performance, below which the performance of Egyptian firms increases.

However, the performance of these firms is reduced as a result of the rise in financing costs and information asymmetry, once the exposure of debt ranges to a certain threshold.

Therefore, the predictions of the Trade-off theory are admitted.

In addition, lagged values and control variables are robust determinants of present values of firm performance.

Though, the outcomes of the previous published papers in the developed countries favored trade-off theory as it possibly provides a better account for capital structure choices, conversely, pecking order theory is slightly preferred for developing countries.

This study provides a much more challenging confirmation that the trade-off theory is more preferred for MENA countries taking the Egyptian context as an example for the MENA region.