Advances in Small Business Finance PDF
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ADVANCES IN SMALL BUSINESS FINANCE FINANCIAL AND MONETARY POLICY STUDIES Volume 21 The titles published in this series are listed at the end of this volum, . ADVANCESIN SMALL BUSINESS FINANCE Edited by RASSOUL Y AZDIPOUR California State University, Fresno, California, U.S.A. With a Foreword by David A. Walker Springer Science+Business Media, B.V. Library of Congress Cataloging-in-Publication Data Adv.nees In s8.11 Duslnns fln,ne, I Idl.ted by R'$SOul VUdlpour , fore~ord by DivId A. Walker. p. ce. -- (Flnanet.l Ind 10nltlry pol1ey studln , v. 211 ·Chosen ... frOI ... p,plrs leelpted for preSentltlon It thl Flrst Annull S .. 11 FIrI Flnlnelal Rnureh Sy.poslue hllC1 It C.l1fornll Stlte Unlversuy. Fruno ... In 1989---Prlf. ISBN 978-94-010-5532-1 ISBN 978-94-011-3462-0 (eBook) DOI 10.1007/978-94-011-3462-0 1. S .. 11 buslnlss--Fln.nce--Congresses. I. Vazdlpour. R'Slloul. 1951- Il. S.,11 FIre Fln.nel,1 Resl,ren SyepOSlu. (lSt 1989 C.llfornla Stati UnlVlrslty. Fresno) IU. Serle$; Flnlneul .nd lonlury pol1ey studIu, 21. H04027.7.A34 1991 658. 15'92--(lc20 91-4367 ISBN 978-94-010-5532-1 Print~d on acid-fre~ po~r All Rights Rescrved C 1991 Springer Scienoc+Businc:ss Media Dordrecht Originally publishcd by Kluwer Academic Publishers in 1991 Softco\"cr rcprinl ofthc hardco\"cr Isi cdition 1991 No put of the material protected by this copyright notice may be reproduced or utiJized in any form or by any means, electronic Of mechanical. including pbotocopying, recording Of by any infonnation slorage and retrieval system, without writtcn pennission from ilie copyright owner. To: Joseph J. Penbera, a man of great vision Table of contents FOREWORD by David A. Walker ix PREFACE xi ACKNOWLEDGEMENTS xv Part I THE EQUITY MARKET AND SMALL FIRM 1 The Valuation ofInitial Public Offerings: The Small Firm Case I. Krinsky, and W. Roteberg 2 l'ricing Minority Discounts in Closely-held Corporations Jerome S. Osteryoung, Donald A. Nast and William H. Wells 19 Part II ISSUES IN FINANCING OF SMALL FIRMS 3 Asset-Based Financing and the Determinants of Capital Structure in the Small Firm Richard L. Constand, Jerome S. Osteryoung and Donald A. Nast 29 4 An Empirical Analysis of Financing the Small Firm David A. Walker 47 5 Financial Capital Structure and Small Business Viability Timothy Bates 63 Part ill ISSUES IN LEVERAGED BUYOUTS, FRANCHISING AND AGENCY RELATIONS 6 Are the Motivations for Leveraged Buyouts the Same for Large and Small Firms? John C. Easterwood and Ronald F. Singer 79 7 Financial Issues in Franchising Edward A. Dyl 93 8 Optimum Management Contracting, Agency Problem and the Size of the Firm: A Background Analysis Rassoul Yazdip our and Moon H. Song 109 Part IV FINANCIAL INSTITUTIONS AND SMALL BUSINESS FINANCING 9 Risk and Return in Small Business Lending: The Case of Commercial Banks Andrew H. Buck, Joseph Friedman and William C. Dunkelberg 121 10 The Impact of Financial Institution Regulatory Change on the Financing of Small Business Harry P. Guenther 139 viii Part V APPENDIX A. A Short Guide to the Available Research in the Field of Small Business Finance Rassoul Yazdip our 159 B. Available Financial Data Bases for Research on Small Business CharlesOu 169 BIOGRAPHICAL SKETCHES 181 FOREWORD Small business research is becoming more sophisticated as an increasing number of scholars study more complex analytical issues. In many cases research pertaining to the small firm is part of the incomplete and inefficient markets controversy in the finance literature. Because of their size and traditional organizational form, small firms often find it extremely difficult to attract significant resources in sophisticated financial markets. These markets appear to be segmented and incomplete; whether or not the markets are efficient is subject to much debate. Adyances in Small Business Finance presents a variety of research studies that indicate the unique roles of debt and equity and the sources of funds for small firms. This book contributes important insight into major questions that face small finns' financiers, managers, and owners on a daily basis. Many of the studies in this volume deal with aspects of valuation of the small firm. In some instances, the focus is on the firm's ability to attract debt or equity and in others the emphasis is on valuation of the small firm's capital. Constand, Osteryoung, and Nast focus on the determinants of capital structure for small firms that are privately owned and are highly dependent on commercial loans as their supply of debt. Timothy Bates examines firm viability and finds that surviving firms are those that began with greater initial capital, create new jobs, and are led by entrepreneurs who are better educated. Buck, Friedman, and Dunkelberg examine risk-return tradeoffs and lending decisions for banks that lend to small firms in various phases of a business cycle; as macro-economic uncertainty increases in global markets, the focus of this paper is a current concern for most small firms. Harry Guenther analyzes the effects of recent banking regulation and legislative initiatives on the availability of funds to fmance small firms; he finds that recent banking regulations may have some adverse effects on the supply and costs of funds for small firms. Osteryoung, Nast and Wells develop a framework for measuring minority discounts in valuing closely-held firms, which is an economic issue that is considered in many law cases; they argue that discounts must be determined by financial theory and analysis rather than arbitrary approaches that have often been employed. Krinsky and Rotenberg critique several of the highly regarded empirical studies on valuation of initial public offerings using Canadian data that distinguishes between large and small issuing firms; they find that high book values of assets prior to the offering are a primary determinant of initial public value. Easterwood and Singer examine the motives for taking large and small firms private; they fmd that firm size affects the motivation and that small firm buyouts are often undertaken to reduce stockholder servicing costs and owner manager conflicts. Edward Dyl describes franchising as an important organizational form to enable entrepreneurs to begin new ventures; he shows that franchising is a market solution to support origination and development of small firms while reducing agency costs. David Walker presents an empirical analysis of a model that delineates relationships among the sources of financing the small firm; he emphasizes the need for expanded databases and further empirical work on small business models. Charles Ou provides an important survey of infonnation on financing small business for current and future research. Many of the issues that face small business are fundamental questions that influence the perfonnance of the U.S. economy since small firms employ more than half of the labor force and produce a large share of the national output. Expanding the financial resources for ix x small firms to sUlvive or to grow into major firms is a public policy issue that legislative bodies and public agencies must focus on if the U.S. is to continue its sustained economic growth in the 1990s. The development of small firms also affects many large firms because they subcontract to small firms or depend on them for major inputs. Adyances in Small Business Finance should stimulate other studies that will provide insight into the issues that small firms face in their efforts to develop into major enterprises. The variety of papers presented in this volume should appeal to a wide audience. This volume is the result of much diligent management by Professor Rassoul Yazdipour of California State University at Fresno. Rassoul has led the evolution of the Small Firm Financial Research Symposium. at which the papers in this volume were first presented. and he has undertaken the editorship of a new small business finance journal that will present scholarly papers. David A. Walker PREFACE Small business finance, as an emerging and promising field of study, has recently received a great deal of attention from researchers and specialists from all over the world. A quick look at the list of references provided at the end of this book in Appendix A, as well as the level and types of issues raised and examined in this present volume, reveals this fact. In addition to the advancements made in the field so far, there is little doubt that such a trend will continue in the future!. There are at least four major reasons that the field of small business finance is gaining more recognition and acceptance among scholars and professionals world-wide. These reasons can be listed as follows. 1-The prevalence of a trend that has become known as "defirming" of the public corporation. As Kensinger and Martin (1989) report2, over the 1985-1989 period, 143 corporations have disappeared from the Fortune 500 list and many others have gone through significant downsizing. 2- The availability of new financial data bases at the micro level. Appendix B at the end of this book provides a listing of some of the available databases in the area of small business. Some of the chapters in this book will also provide more insight into the available data sources. 3- The emergence of new financial markets such as the $ 33 Billion U.S. formal venture capital market3, the $ 56-Billion-a-year infonnal venture capital market4 (U.S.), and the recently created "144a market"; as well as new financing methods and instruments- like Employee Stock Ownership Plans (ESOPs). 4- The general trend, especially in the U.S., toward entrepreneurship and small business. The nature and speed of recent technological developments as well as the wave of corporate restructurings in the 1980s, and the accompanying corporate job insecurities, have all made the trend toward entrepreneurship inevitable. Regardless of any other consideration, small businesses represent a very important segment of all economies. For example, at the end of 1987, 47% of all the U.S. assets were under management by smaller businessess and the small finns' contribution to U.S. output was 50% in 1982, the most recent year for which data is available6• Also, half of the total sales receipts are generated by small businesses and the majority of new jobs are created by such companies. The objective of this book is to present to readers the products of some of the recent research activities carried out in the growing field of small business finance. In doing so, it is hoped that more researchers will get involved in the process and further help to raise the degree of efficiency of the financial markets in which small business owners, investors, and managers operate. The articles included in this volume were chosen, through a referee process, from among the papers accepted for presentation at the First Annual Small Firm Financial Research xi
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