Global Crisis and Financial Distress Likelihood of SMEs: Some Evidence From Panel Data Regression

Global Crisis and Financial Distress Likelihood of SMEs: Some Evidence From Panel Data Regression

Andrea Quintiliani (Pegaso Telematic University, Italy)
DOI: 10.4018/978-1-5225-3767-0.ch005

Abstract

In the aftermath of the global financial crisis, this chapter sheds light on the determinants of the financial distress costs between Italian and German small and medium enterprises (SMEs). The authors propose an innovative formulation of the expected costs originated by financial distress expressed as the product of the expected financial distress likelihood times the total amount of the financial distress costs if insolvency does occur. The model is estimated using panel data methodology on samples from two European countries (Italy and Germany). The results indicate that the amount of ex-post costs depends on derivative financial instruments, intangible assets, and relation with local banks (small local banks rather than large banking groups).
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Background

The literature on the SMEs underlines that one of the principal characteristics of the SMEs are the elevated financial distress likelihood (Keasey & Watson, 1993; Andrade & Kaplan, 1998; Frank & Goyal, 2009; Mac & Bhaird, 2010) and it needs to investigate their financial structure to understand fully the reasons for the failure.

Capital structure theory begins with the Modigliani and Miller (1958) paradox of “capital structure irrelevance”, where firm value is not affected by its financing mix. Since then, corporate finance literature has grown enormously and basically distinguishes between two main theoretical approaches (Balios et al., 2015): i) the trade-off theory, ii) the pecking order theory.

The core of the trade-off theory refers to the balancing process of benefits of debt (tax shield, reduction of agency costs of equity, lower issuance costs) and costs of debt (direct and indirect financial distress costs, rising agency costs of debt) which leads to the concept of an optimal capital structure.

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