From their paper:
"publicly traded U.S. firms fund a much larger proportion of their financing deficit with external equity when the cost of equity capital is low. Small growth firms rely heavily on debt financing, and only resort to equity markets when the cost of equity is low."It is also important to note that Ritter and Huang report that their is a slow adjustment process so that firms can deviate from their "target" ratio for a long time:
"Contrary to the findings of some recent papers, firms adjust very slowly toward target leverage, and past securities issues have long-lasting effects on capital structure"Good stuff!
As an aside, I was just putting together my class notes for the fall semester on capital structure. Fortunately this paper does not lead to a change :) .
In fact how do I teach capital structure? I explain the traditional tradeoff theory, the pecking order theory, and then say, on top of these is the growing evidence that while managers consider these financing theories at least in part, market timing also plays a large role. Moreover market timing muddies the water since it can hide the impact of other factors that drive capital structure.
This paper by Ritter and Huang now fit in that "growing evidence" category.
Jay Ritter and Ronbing Huang. "Testing the Market Timing Theory of Capital Structure" Working paper, August 15, 2005.