Friday, March 8, 2019

PECKING ORDER THEORY


Ø  PECKING ORDER THEORY
FINANCIAL MANAGEMENT
CONCEPTUAL SERIES FOR COMPETITIVE EXAM FOR COMMERCE AND ACCOUTNACNY
C.S.E MAIN EXAM COMMERCE AND ACCOUNTANCY

FINANCIAL MANAGEMENT
CONCEPTUAL SERIES FOR COMPETITIVE EXAM FOR COMMERCE AND ACCOUTNACNY
C.S.E MAIN EXAM COMMERCE AND ACCOUNTANCY

PECKING ORDER THEORY/MODEL

1.     DEVELOPED BY STEWART C MYERS AND NOCLAS MAJLUF IN 1984

2.     BASED ON THE ASSERTION THAT MANAGERS HAVE MORE INFORMATION ABOUT THEIR FIRM THAN INVESTORS
3.     DISPARITY OF INFORMATION IS KNOWN AS ASYMMETRIC INFORMATION
4.     OTHER THING BEING EQUAL BECAUSE OF ASYMMETRIC INFORMATION,MANAGER WILL ISSUE DEBT WHEN THEY ARE POSITIVE ABOUT THEIR FIRM’S FUTURE PROSPECTS AND WILL ISSUE EQUITY WHEN THEY ARE UNSURE.
5.     IT STATES THAT COMPANIES PRIORITIZE THEIR SOURCE OF FINANCING FROM INTERNAL FINANCING TO EQUITY
6.     INTERNAL FUNDS ARE USED FIRST,THEN DEBT AND WHEN IT IS NOT SENSIBLE TO ISSUE ANY MORE DEBT,THEN EQUITY
7.     MANAGERS ADHERE TO HIERARCHY OF FINANCING SOURCE AND PREFER INTERNAL FINANCING WHEN AVAILABLE AND DEBT IS PREFERRED OVER EQUITY IF EXTERNAL FINANCING IS PREFERRED
     PECKING ORDER THEORY
     RESLUST FROM OBSERVED BEHAVIOR BASED ON SURVEY BY GORDON DONALDSON AND FROM ASYMMETRIC INFORMATION:-
1.     MANAGERS ALWAYS PREFER TO USE INTERNAL FINANCE. AS INTERNAL FINANCE IS CHEAPER AS NO TAX ARE PAID ON RETAINED EARNING AND NO TRANSACTION COST
2.     WHEN THEY DO NOT HAVE INTERNAL FINANCE,PREFER ISSUING DEBT. FIRST SECURE  DEBT.THEN UNSECURE DEBT AND THEN HYBRID SECURITIES SUCH AS CONVERTIBLE DEBENTURES.
3.     AT LAST RESORT,MANGERS ISSUE SHARES TO RAISE FINANCES.
     EVALUATION
1.     ABLE TO EXPLAIN THE NEGATIVE RELATIONSHIP BETWEEN PROFITABILITY AND DEBT RATIO WITH IN THE INDUSTRY.
2.     MANAGERS AVOID SIGNALLING ADVERSE INFORMATION ABOUT THEIR COMPANY BY USING INTERNAL FINANCE
3.     THE PROFITABLE FIRMS HAVE LOWER DEBT RATIO NOT BECAUSE THEY HAVE LOWER TARGET RATIO BECAUSE THEY HAVE INTERNAL FUNDS TO FINANCE THEIR ACTIVITIES.
     LIMITATIONS
.IT DOES NOT FULLY EXPLAIN THE CAPITAL STRUCTURE DIFFERENCES BETWEEN INDUSTRIES



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