CAPITAL STRUCTURE AND ASSET PORTFOLIO CHOICE AMONG MICRO, SMALL AND MEDIUM SCALE MANUFACTURING ENTERPRISES IN THE GAMBIA

Mayada  M. BAYDAS

The limited role of manufacturing enterprises in many Sub‑Saharan African countries (SSA) implies a persistent need to examine the determinants affecting their operations and evolution. It is speculated that over 10 to 30 years, only a few countries will host large scale industries that will provide employment to wage laborers. However, manufacturing subsectors, such as food processing, tailoring and metal working among others, can provide ample opportunities for small and medium scale enterprises. Consequently, it is important to have a better understanding of the factors affecting operations in the manufacturing sector which will be an important source of employment.

The focus of this study is the capital structure and asset portfolio choice of manufacturing enterprises in LICs. The analysis explored the determinants of the entrepreneur's simultaneous decisions regarding capital structure and asset portfolio of SMEs. The primary purpose of this work was to identify and analyze the determinants of the capital structure of the enterprise. The study examined the relative importance of different sources of financing, internal versus external sources, in the capital structure of the firm and the factors explaining entrepreneurial behavior in drawing upon different financial services and contracts. The second aim was to investigate the determinants of the asset portfolio decision, and in turn their significance on the operation and evolution of the firm.

The capital structure and asset portfolio selection was modeled by considering a one‑period world where entrepreneurs possess a certain amount of wealth which is to be allocated among different assets. The model considered two approaches to the analysis of the asset and liability choices by the entrepreneur. The first approach assumed complete certainty of all the variables and, thus, presents a deterministic model. The second approach incorporated uncertainty and, thus, presents a stochastic model. These two models are related in the sense that they are based on the same economic behavior of the economic agents, the entrepreneurs, with the given assumptions about their investment sets. However, the two models are distinct in the sense that they follow different approaches, deterministic and stochastic, in examining the problem.

The deterministic model, on the one hand, involved a maximization of the retained earnings of the enterprise in the objective function with respect to the decision variables, which are different  in the sources of financing, subject to the balance sheet constraint and the expenditure flow identity. Solving this problem yielded a simultaneous system of equations of the sources of financing relative to total expenditure. On the other hand, the stochastic model involved a maximization of the entrepreneur's utility function which involves a trade off between risk and return associated with the various securities in the entrepreneur's portfolio and a vector of the entrepreneur's risk aversion coefficient, subject to the balance sheet constraint. Solving this problem yielded a simultaneous system of the share equations of the different securities in the entrepreneur's portfolio. A set of testable hypotheses derived from these models was applied to a sample of enterprises in the Gambia.