Corporate Financing and Firm Efficiency: A Data Envelopment Analysis Approach

This study investigates the endogenous determination of firm efficiency and leverage while testing the competing hypotheses of agency cost, efficiency-risk and franchise-value, in a sample of 136 non-financial firms listed on the Pakistan Stock Exchange (PSX), over the period 2002 to 2012. Data Envelopment Analysis (DEA) method is employed to measure firm efficiency as proxy for firm performance. The endogenous nature of firm efficiency and leverage allowed using two-stage least square (2SLS) technique. The findings of the efficiency equation suggest that leverage has a significant positive effect on firm efficiency. Additionally, firm risk, growth rate, size, board size and board composition positively affect firm efficiency. On the other hand, the results of the leverage equation suggest that firm efficiency has a significant negative effect on leverage. Firm size and CEO duality have positive effects on leverage while firm age, board composition, institutional ownership, managerial ownership and asset tangibility have negative effects on leverage. Generally, the results support agency cost and franchise-value hypotheses that higher leverage improves firm efficiency while higher firm efficiency results in reduced leverage. Keywords: Leverage, Firm Efficiency, Capital Structure, Firm Performance, Data Envelopment Analysis