The Pecking Order and Financing Decisions: Evidence from Financial Reporting Regulation

We use the staggered introduction of a major financial reporting regulation worldwide as an exogenous shock to the information environment of individual companies and study whether treated firms change financing decisions consistent with the pecking-order theory. Exploiting within country-year variation in firms’ financing frictions, we document that financially constrained firms increase the issuance of external financing and investment after the introduction of the new regime. Further, firms make different financing decisions (debt vs. equity) around the new regulation depending on their ex-ante debt capacity, allowing them to adjust their capital structure. Our findings highlight the importance of the pecking-order theory in explaining financing as well as investment policies. Current draft: September 2017 _______________ * Corresponding author contact information: 100 Main Street, Cambridge, MA 02142; Phone: (617) 253-2956; Email: [email protected]. We thank Manuel Adelino, Joshua Anderson, Mark Bradshaw, John Core, Xavier Giroud, João Granja, Nick Guest, Michelle Hanlon, Amy Hutton, Christian Leuz, Gustavo Manso, Stewart Myers, Jeff Ng, Scott Richardson, Michael Roberts, Antoinette Schoar, Nemit Shroff, Eric So, Jerry Zimmerman, and workshop participants at University of Arizona, Boston College, University of British Columbia, Catholic-Lisbon University, Harvard, INSEAD, LBS, MIT, Penn State, Rice University, UCLA, and the University of Sao Paulo for helpful comments. The authors gratefully acknowledge financial support from the MIT Sloan School of Management, Rice University and UCLA. Patricia Naranjo and Daniel Saavedra are also grateful for financial support from the Deloitte Foundation.