Policy implications arising from the impact of the last recession on the capital structure of UK SMEs

Different capital-structure theories are reviewed in order to formulate testable propositions concerning the levels of debt in small and medium-sized enterprises (SMEs), and a number of regression models are developed to test the hypotheses. The statistical results indicate that age and profitability are negatively related to gearing, whereas size, asset structure, risk, nondebt tax shields, and the level of debtors each have a positive relationship with gearing. These relationships are maintained over time, but the magnitude and significance of the coefficients vary over business economic cycles. The results indicate that the last recession may have changed the borrowing behaviour of small businesses. After the dramatic experiences of the longest and deepest UK recession, small-business owners appear to be more cautious in raising external finance, and the results suggest that they may wish to grow only when there are sufficient internally generated funds, especially profits, to finance new investments. The results also suggest that the last recession had an effect on the lending behaviour of financial institutions, which still appear to be more cautious in their lending policies-even after the recession. The authors examine a number of policy implications that emanate from the findings, and discuss a number of possible actions that the government could undertake in order to enhance the financial development and prosperity of SMEs across the economic cycle.