5. Determinants of capital structure and hypotheses development

#### 5.1. Firm-level determinants

The corporate financing literature has acknowledged the significant impact of ownership concentration on capital structure thus be regarded as important determinants to be examined [34]. Literature has been compiling evidences on several firm-level determinants having significant influence on debt financing decisions and is relevant to either one specific capital structure theory or a mixture of more than one theory at work. The most commonly cited firm-level determinants discussed in the literature are non-debt tax shield (NDTS), firm size, business risk, tangibility, liquidity, profitability, intangibility, growth, age of firms, and share price performance. Frank and Goyal [36] identified and highlighted these determinants as the core factors that are frequently used in empirical capital structure research.

#### 5.2. Ownership concentration

Large shareholders have the incentive and power to monitor and control the action of managers [6]. Debt acts as the controlling mechanism, making it difficult for managers to adjust capital structure according to their own interests. Besides, family-owned firms may prefer debt than equity financing to avoid ownership dilution and thus retain control on the firm. This suggests a positive relationship between family-owned concentrated ownership and capital structure. Li et al. [37] find that ownership structure positively influences debt financing decision of state-owned firms in China. Several studies also find positive relationship between concentrated ownership and leverage like [34, 38, 39].

In contrast, large controlling shareholders in a concentrated ownership can act as a controlling mechanism as a substitute of debt to monitor management activities [1]. Thus, a negative relationship between ownership concentration and debt financing is expected. In addition, large controlling shareholders are also at the position to expropriate their personal interests at the expense of minority shareholders [6]. This increases agency cost for debt, and large controlling shareholders would prefer equity financing to expropriate from minority shareholders; hence, it explains the negative relationship [40]. Ownership concentration is measured based on the shareholdings of 5% and above [11, 35]. The hypothesis for this variable is that: H1: ownership concentration has a positive influence on debt financing.

#### 5.3. Ownership Identity

loans as previously discussed. An indication of market timing theory at work is also traced

Literature on Indonesia has also been compiling evidences where firms with highly concentrated ownership structure suffer with agency problems between the controlling shareholders and minority shareholders [11, 12, 34, 35]. This study therefore reveals the insights on how ownership concentration in Indonesia impacts the financing decisions and can perhaps be inferred to by her neighboring countries for which they are reported to share similar owner-

The corporate financing literature has acknowledged the significant impact of ownership concentration on capital structure thus be regarded as important determinants to be examined [34]. Literature has been compiling evidences on several firm-level determinants having significant influence on debt financing decisions and is relevant to either one specific capital structure theory or a mixture of more than one theory at work. The most commonly cited firm-level determinants discussed in the literature are non-debt tax shield (NDTS), firm size, business risk, tangibility, liquidity, profitability, intangibility, growth, age of firms, and share price performance. Frank and Goyal [36] identified and highlighted these determinants as the

Large shareholders have the incentive and power to monitor and control the action of managers [6]. Debt acts as the controlling mechanism, making it difficult for managers to adjust capital structure according to their own interests. Besides, family-owned firms may prefer debt than equity financing to avoid ownership dilution and thus retain control on the firm. This suggests a positive relationship between family-owned concentrated ownership and capital structure. Li et al. [37] find that ownership structure positively influences debt financing decision of state-owned firms in China. Several studies also find positive relationship between

In contrast, large controlling shareholders in a concentrated ownership can act as a controlling mechanism as a substitute of debt to monitor management activities [1]. Thus, a negative relationship between ownership concentration and debt financing is expected. In addition, large controlling shareholders are also at the position to expropriate their personal interests at the expense of minority shareholders [6]. This increases agency cost for debt, and large controlling shareholders would prefer equity financing to expropriate from minority shareholders; hence, it explains the negative relationship [40]. Ownership concentration is measured based on the shareholdings of 5% and above [11, 35]. The hypothesis for this variable is that: H1:

where firms seem to time their equity issuance.

10 Financial Management from an Emerging Market Perspective

5.1. Firm-level determinants

5.2. Ownership concentration

concentrated ownership and leverage like [34, 38, 39].

ownership concentration has a positive influence on debt financing.

ship concentration structure and thus fill the gap in the literature.

5. Determinants of capital structure and hypotheses development

core factors that are frequently used in empirical capital structure research.

Ownership identity can affect capital structure decisions both positively and negatively [17]. Family-owned firms always put long-term commitment as their main priority, making sure it spans at least for two family generations [34]. Having good rapport with the lenders, family ownership is associated with greater availability of credit and much lower cost of debt financing [13]. Thus, family-owned firms become more leveraged comparative to other types of ownership structure or non-family-owned firms. Studies like [14, 22, 23] report a positive relationship between ownership identity (family owned) and leverage.

Nevertheless, ownership identity can also affect debt financing negatively depending on the management's interests and main agenda [34]. Carrying the reputation of being undiversified and risk averse, taking higher level of risk by engaging with more debt will not be in their main financial strategy. Family-owned firms comparative to non-family owned are very much concern over their social reputation, and the fear of a tarnished reputation due to financial distress will keep them away from debt consumption. Thus, these firms will be very much underleveraged as compared to their non-family-owned firms. The alignment of interest between shareholders and managers being a family-owned firm minimizes the agency cost and thus makes issuing debts as manager's disciplinary tool less crucial. Studies like [19, 21] confirm the negative relationship between family owned and leverage. This study therefore hypothesizes that H2: ownership identity has significant influence on debt financing. This study uses dummy code of '1' for family-owned firms while "0" for non-family-owned firms. The status of the firm, either family owned or non-family owned, is based on the name of the biggest shareholder in the annual report of the firm for the respective years [41].

#### 5.4. Non-debt tax shield (NDTS)

After the MM irrelevance theory, taxes are included in capital structure study and reveal that firms can reap substantial gains from tax shield. But firms are cautioned of the possibility of default in interest payments if debt is employed excessively in the capital structure and thus may lead to financial distress and eventually face bankruptcy risk [36]. To safeguard from such risks of using debt financing, firms may opt to tax loss carry forward, investment tax credits, and depreciation or also known as non-debt tax shield (NDTS). Frank and Goyal [36] argue that NDTS should be negatively correlated with leverage as NDTS is the alternative to tax shields provided by debt financing. Significant negative relationship between NDTS and leverage is reported in [42] on Indonesian firms, supporting [36]. NDTS is represented by annual depreciation expenses to total asset [36]. Thus, following the literature, this study hypothesizes that H3: NDTS has a negative influence on debt financing.

#### 5.5. Firm size

Size of firm is also documented to have a significant influence on debt financing. Larger firms are seen to have better access to a bigger debt consumption as they are more diversified, thus lesser tendency to fail. This indicates a positive relationship which supports the trade-off theory. Larger firms should be less affected by information asymmetry problems as information regarding the firms is much easier to obtain and more accessible comparatively; thus, debt financing is easily accessible to them. Ameer [42] and De Jong et al. [43] support this trade-off theory explanation on the relationship between firm size and debt financing. However, [25] depicts significant negative relationship between size and debt financing. Perhaps according to [25], the negative relationship is due to the effects of Indonesian financial market deregulation activities where the control over initial offering prices and the daily movement of stock prices were lifted and thus encouraged large firms to issue equity over debt. Firm size is represented by natural logarithm of total asset [25]. The hypothesis is that H4: firm size has a positive influence on debt financing.

#### 5.6. Business risk

Earnings before interest and taxes (EBIT), also known as operating profit, is a core profit a firm earns from the business it is in and is related to a firm's normal operations and are expected to recur every year unlike the non-recurring items such as gain or loss on sale of assets. Hence, EBIT is a good gauge of how well a firm is being managed and is watched closely by all stakeholders and it measures both sales and cost of a firm. EBIT is also closely linked to firmlevel economic factors as changes in economy will affect changes in a firm's earnings (earnings volatility). Earning volatility is commonly translated as business risk of firms as well. Higher earnings volatility may increase the risk of default on debt payments. Therefore, debt financing should be avoided, indicating a negative relationship. Haron [25], Ameer [42], and De Jong et al. [43] find business risk having a significant negative relationship with debt financing among firms in Indonesia. Firms with high degree of risk may prefer equity issuance to debt for business expansion and competencies. As a result, equity holders would seek for higher return as compensation to the higher risk taken on investment. Business risk is represented by yearly change in the firm EBIT [25]. Here, the hypothesis is that H5: business risk has a negative influence on debt financing.

#### 5.7. Tangibility

Tangible assets help firms obtain more debt from lenders as tangible assets act as collateral, making debt less risky. Lenders are more willing to lend to firms with high tangible assets as these assets are easier to repossess in bankruptcy; thus, a positive relationship is anticipated between tangible assets and debt financing as explained by the trade-off theory. Moosa and Li [24], Bunkanwanicha et al. [30], and De Jong et al. [43] all share similar significant positive relationship between tangibility and debt financing in their studies on Indonesian firms. Tangible asset is represented by net fixed asset over total asset [25, 43]. As for tangibility, the hypothesis is that H6: asset tangibility has a positive influence on debt financing.

#### 5.8. Liquidity

When a firm is said to be liquid, the internal funds will be quite substantial; thus, the need for debt financing will be lessen. This is explained well by pecking order theory that firms with high liquidity need less debt financing and opt to internal funding given the huge retained earnings of the firm. This reflects a negative relationship between liquidity and debt financing, and this notion is well supported by [24, 25]. Firm liquidity is represented by current asset to current liabilities [24, 25]. The hypothesis is that H7: firm liquidity has a negative influence on debt financing.

#### 5.9. Profitability

financing is easily accessible to them. Ameer [42] and De Jong et al. [43] support this trade-off theory explanation on the relationship between firm size and debt financing. However, [25] depicts significant negative relationship between size and debt financing. Perhaps according to [25], the negative relationship is due to the effects of Indonesian financial market deregulation activities where the control over initial offering prices and the daily movement of stock prices were lifted and thus encouraged large firms to issue equity over debt. Firm size is represented by natural logarithm of total asset [25]. The hypothesis is that H4: firm size has a positive

Earnings before interest and taxes (EBIT), also known as operating profit, is a core profit a firm earns from the business it is in and is related to a firm's normal operations and are expected to recur every year unlike the non-recurring items such as gain or loss on sale of assets. Hence, EBIT is a good gauge of how well a firm is being managed and is watched closely by all stakeholders and it measures both sales and cost of a firm. EBIT is also closely linked to firmlevel economic factors as changes in economy will affect changes in a firm's earnings (earnings volatility). Earning volatility is commonly translated as business risk of firms as well. Higher earnings volatility may increase the risk of default on debt payments. Therefore, debt financing should be avoided, indicating a negative relationship. Haron [25], Ameer [42], and De Jong et al. [43] find business risk having a significant negative relationship with debt financing among firms in Indonesia. Firms with high degree of risk may prefer equity issuance to debt for business expansion and competencies. As a result, equity holders would seek for higher return as compensation to the higher risk taken on investment. Business risk is represented by yearly change in the firm EBIT [25]. Here, the hypothesis is that H5: business risk has a

Tangible assets help firms obtain more debt from lenders as tangible assets act as collateral, making debt less risky. Lenders are more willing to lend to firms with high tangible assets as these assets are easier to repossess in bankruptcy; thus, a positive relationship is anticipated between tangible assets and debt financing as explained by the trade-off theory. Moosa and Li [24], Bunkanwanicha et al. [30], and De Jong et al. [43] all share similar significant positive relationship between tangibility and debt financing in their studies on Indonesian firms. Tangible asset is represented by net fixed asset over total asset [25, 43]. As for tangibility, the

When a firm is said to be liquid, the internal funds will be quite substantial; thus, the need for debt financing will be lessen. This is explained well by pecking order theory that firms with high liquidity need less debt financing and opt to internal funding given the huge retained earnings of the firm. This reflects a negative relationship between liquidity and debt financing, and this notion is well supported by [24, 25]. Firm liquidity is represented by current asset to

hypothesis is that H6: asset tangibility has a positive influence on debt financing.

influence on debt financing.

12 Financial Management from an Emerging Market Perspective

negative influence on debt financing.

5.7. Tangibility

5.8. Liquidity

5.6. Business risk

Asymmetric information problem is a concern and can affect the financing choice of a firm. Managers of firms with high profit and cash flows might opt to internal resources first when deciding on investment financing as a mean to mitigate information asymmetry [10] as these are the cheapest funds rather than using external financing, either debt or equity. Hence, profitability is expected to affect debt financing negatively, indicating the support of the pecking order theory. Moosa and Li [24], Haron [25], Ameer [42], and De Jong et al. [43] all share similar result of negative relationship between profitability and debt financing in their studies on Indonesian firms. Firm's profitability is represented by EBIT over total asset [25]. Thus, the hypothesis for this variable is that H8: firm's profitability has a negative influence on debt financing.

#### 5.10. Intangibility

Intangible assets like copyright, goodwill, patent, trade mark, and research and development costs do have significant impact on debt financing of firms [44]. The trade-off theory and the agency theory suggest a negative association between intangible assets and debt financing, while the pecking order theory implies that firms with more intangible assets confront more asymmetric information problem and thus use more debt financing. Chen and Strange [44] find positive relationship between intangibility and leverage in their study on the Chinese listed firms. Chen and Strange [44] find that intangible assets do help firms in China in confronting information asymmetry problems as intangible assets like goodwill are capable to increase borrower's access to debt in order to mitigate this problem. Intangibility is measured by the ratio of intangible assets to total assets [44]. The hypothesis is that H9: intangibility has a positive influence on debt financing.

#### 5.11. Growth

Firms with good growth record require huge funds to continue its encouraging growth and investment opportunities for expansion. The agency theory explains that growth firms will choose to issue equities to fund their operations and investments as a signal to the outsiders that they are not facing any underinvestment and asset substitution problems. Therefore, growth is expected to relate negatively with leverage. POT also sees a negative relationship between growth and debt financing as being large firms they are expected to have substantial retained earnings. De Jong et al. [43] support this negative relationship in their cross-country studies that include Indonesian firms. Growth is represented by market value of equity over book value of equity. Following literature, the hypothesis is that H10: firm growth has a negative influence on debt financing.

#### 5.12. Age

With regard to age, the hypothesis is that the older the firm is, the more it is able to accumulate funds and the less it will need to borrow either long term or short term. In other words, a new firm will not have time to retain funds and may be forced to borrow. Consequently, age is likely to be negatively related to debt financing [45]. Older firms have longer track records and therefore a higher reputational value. Age of firm is measured from the year of listing on the stock exchange [44]. The hypothesis is that H11: age has a negative influence on debt financing.

#### 5.13. Share price performance

Equity issuance will be preferred if a firm accumulates a strong share price performance with the present market values comparatively higher than the past market values. On the other hand, firm will repurchase equity if the situation is otherwise. This notion is based on the market timing theory, indicating a negative relationship between share price performance and debt financing. Haron [25] find significant negative relationship between share price performance and debt financing on Indonesian firms. Share price performance is represented by yearly change in year-end share price [24, 25]. The hypothesis for this variable is that H12: share price performance has a negative influence on debt financing.
