Incorporating Heterogeneity into an Understanding of the Financial Structure of Privately Held Firms

Results of many past studies suggest privately held firms are different from large firms in how they fund their financial resource requirements. However, most of these studies focus on aggregate results that are interpreted to represent small firms as an homogenous group and consequently mask considerable heterogeneity and the possibility that there may be no "universal" optimum in respect of financial structure. In the absence of an optimal outcome, trying to understand financial structure from a single dichotomous measure such as leverage may be of little value. The study reported in this paper extends the analysis of information related to over 3,500 Australian firms from which four groups of firms with unique defining financial structure variables have previously been identified. These groups (defined by the dominance of short-term debt, bank loan debt, related persons debt, and working owner equity) are analysed for association with a range of potentially influencing variables such as age, size, profitability and risk. The results highlight a number of variables that appear to have greater predictive ability and are therefore potentially more important when the heterogeneity of privately held firms is considered. The more important continuous variables are: size (measured by the log transformation of sales); liquidity (the log transformation of the ratio of current assets to current liabilities); risk (only as measured by the default risk proxy based on an adaptation of Altman's Z score); asset tangibility (using an arcsine transformation of an asset structure proportion); and, an owners' characteristic (years of experience). The more important categorical variables are governance structure (measured by both type of legal organisation and family business status) and industry sector.