[The Global financial crisis 2007 to 2009, How has it affected the cost of capital, An Empirical study of Debt and Equity Capital in the UK]

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Acknowledgement

I would take this opportunity to thank my research supervisor; family and friends for their support and guidance without which this research would not have been possible.

DECLARATION

I [type your full first names and surname here], declare that the contents of this thesis represent my own unaided work, and that the thesis has not previously been submitted for academic examination towards any qualification. Furthermore, it represents my own opinions and not necessarily those of the University.

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Abstract

This thesis aims to explain the choice of capital structure in the times of crisis (2007-2009) for the U.K companies. The two main theories used are the trade-off theory and pecking order theory. The essential of the pecking order theory is that manager's capital structure decisions are influenced by the market perceptions of managers? superior information. The trade-off theory provides support for manager's trade-off between benefits and costs of debt. The conventional model is also used in the analysis in order to increase the robustness of the results. We find that the dynamic partial-adjustment model of the trade-off theory seems to explain better the choice of capital structure in the analyzed period than pecking order theory.

Table of Content

Chapter 1: Introduction6

UK's 2007-2009 Financial Crisis7

Pupose…………………………………………….……………………………………………..8

Objectives8

Chapter 2: Literature Review11

Theoretical framework11

Review of empirical literature and hypothesis motivation12

Hypothesis 113

Hypothesis II13

Hypothesis II14

Hypothesis IV14

Chapter 3: Methodology and Models15

Companies and Data15

Models and Variables15

Leverage Testing15

Pecking Order Model16

Dynamic Partial-Adjustment Trade-off Model17

Dynamic Partial-Adjustment Trade-off Model with Macroeconomic Determinants18

Conventional Model18

Tangibility19

Growth (Market-to-Book)19

Size (Sales)19

Profitability20

Industry Median Debt Ratios20

References21

Chapter 1: Introduction

Great Depression by leading economists, and it contributed to the failure of key businesses, declines in consumer wealth and a significant decline in economic activity (Jack, 2009, 2). The financial crisis began in 2007 on the US mortgage market. During the autumn of 2008 it developed into a global liquidity crisis. The functioning of many credit markets seriously deteriorated and in some cases the markets practically stopped to function at all. The banks, for example, found it very difficult to issue securities at longer maturities. The countermeasures of the central banks have largely aimed at securing the banks supply of liquidity. The reluctance of banks to lend, even amongst each other, froze the credit markets, making it difficult for corporations and individuals, even those with a consistent track record of repayment or strong credit scores, to use debt to finance purchases of everything from equipment to auto loans.

Given the conditions stated above, it can be easily deduced that corporations during liquidity crisis face a lot of problems concerning their activity (financial, operational, investment) which is affecting their choice of capital structure (Abe De, 2009, 33).

UK's 2007-2009 Financial Crisis

In February 2008, the UK government had to nationalize Northern Rock Bank plc46, which was the first UK bank failure of the 2007-2009 financial crises. This originate-to-distribute lender was near collapse in 2007, which caused it to seek emergency funding from the Bank of England after ...