Internal Capital Markets and Capital Structure: Bank Versus Internal Debt
Nico Dewaelheyns and
Cynthia Van Hulle
European Financial Management, 2010, vol. 16, issue 3, 345-373
We argue that domestic business groups are able to actively optimise the internal/external debt mix across their subsidiaries. Novel to the literature, we use biâ€ level data (i.e. data from both individual subsidiary financial statements and consolidated group level financial statements) to model the bank and internal debt concentration of nonâ€ financial Belgian private business group affiliates. As a benchmark, we construct a size and industry matched sample of nonâ€ group affiliated (standâ€ alone) companies. We find support for a pecking order of internal debt over bank debt at the subsidiary level which leads to a substantially lower bank debt concentration for group affiliates as compared to standâ€ alone companies. The internal debt concentration of a subsidiary is mainly driven by the characteristics of the group's internal capital market. The larger its available resources, the more intraâ€ group debt is used while bank debt financing at the subsidiary level decreases. However, as the group's overall debt level mounts, groups increasingly locate bank borrowing in subsidiaries with low costs of external financing (i.e. large subsidiaries with important collateral assets) to limit moral hazard and dissipative costs. Overall, our results are consistent with the existence of a complex group wide optimisation process of financing costs.
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