Corporate financial leverage: A Canada-U.S. comparison, 1961-1996
by Myles Zyblock
Business and Labour Market Analysis
Division
Analytical Studies Branch research paper series, No. 111
In
order to acquire financial capital for their operations, corporate sector firms
have choices between different forms of capital such as debt, equity and internally
generated funds. The "financial leverage" or debt-to-asset ratio is
one indicator of the structure of claims on a firm.
The economic landscape
of Canada and the U.S. is fairly similar. There is an impressive interconnectedness
between the two economies. Recessions and expansions are highly correlated, and
economic or financial shocks are transferred across the border at a rapid rate.
This interdependence establishes expectations of a strong similarity in the evolution
of corporate leverage over time between the two countries.
Has Canada's
corporate sector demonstrated an increasing propensity to use debt? And, how comparable
are these trends in financial leverage to the American experience? This paper
establishes and compares the evolution of aggregate corporate leverage trends
in the two countries from 1961 to 1996.
Leverage has increased nearly 50%
in both countries, and the majority of this growth is attributable to a greater
use of short-term debt instruments. Although the magnitude of the increase is
similar, the periods experiencing the rise are country-specific. For Canada, most
of the increase occurred between 1974 to 1983; a period associated with low real
interest rates and rapid capital expansion in Western Canada. Across the border,
the brunt of the growth occurred between 1982 and 1990 when U.S. firms were in
the process of massive capital restructuring by purchasing outstanding equity
with borrowed funds. This period was also associated with an increase in the number
and value of U.S. leveraged buy-outs that aided in pushing financial leverage
higher.
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