Decisions on capital structure in a Zakat environment with prohibition of riba: The case of Saudi Arabia

Abstract

Purpose

The purpose of this paper is to assess and explain the leverage of Saudi companies (53 companies) during the period 2003‐2007.

Design/methodology/approach

This paper reviews two different classical capital structure theories, namely tradeoff theory and pecking order theory, to formulate testable propositions concerning the determinants of debt levels of Saudi companies. It develops a number of regression models (pooled OLS and panel techniques) to test the study's hypotheses.

Findings

The results suggest that a firm's capital structure is positively affected by profitability, size, growth opportunities, and institutional ownership. It is negatively impacted by tangibility, government ownership, family ownership, business risk, dividend payment, and liquidity.

Practical implications

Cost of capital is one of the pillars of corporate competitive advantage. Knowing which factors have the potential to influence capital structure can be essential to minimizing the cost of capital.

Originality/value

This is the first study of the determinants of capital structure in Saudi Arabia that considers dividend payment, ownership structure (as a proxy for agency problems), and risk. This work also contributes to the current debate regarding theories of competitive capital structure.

Citation

Al‐Ajmi, J., Abo Hussain, H. and Al‐Saleh, N. (2009), "Decisions on capital structure in a Zakat environment with prohibition of riba: The case of Saudi Arabia", Journal of Risk Finance, Vol. 10 No. 5, pp. 460-476. https://doi.org/10.1108/15265940911001376