Article

The Journal of Real Estate Finance and Economics

, Volume 34, Issue 1, pp 81-105

On the Capital Structure of Real Estate Investment Trusts (REITs)

  • Zhilan FengAffiliated withSchool of Management, Union Graduate College Email author 
  • , Chinmoy GhoshAffiliated withDepartment of Finance and the Center for Real Estate and Urban Economic Studies (CREUES) at the School of Business, University of Connecticut
  • , C. F. SirmansAffiliated withDepartment of Finance and the Center for Real Estate and Urban Economic Studies (CREUES) at the School of Business, University of Connecticut

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Abstract

Much of the literature on capital structure excludes Real Estate Investment Trusts (REITs) due mainly to the unique regulatory environment of these firms. As such, the issue of how REITs choose among different financing options when they raise external capital is largely unexplored. In this paper, we explore two issues on the capital structure of REITs: is there a relationship between market-to-book and leverage ratios, and, is the relationship between market-to-book and leverage ratio temporary or persistent. Our results suggest that REITs with historically high market-to-book ratio tend to have persistently high leverage ratio. In essence, REITs with high growth opportunity and high market valuation raise funds through debt issues. This finding, which is robust to various specifications and econometric tests, is contrary to the financing decisions of non-regulated firms. We attribute it to the special regulatory environment of REITs where, despite no apparent benefits to debt financing, management issues debt.

Keywords

Capital structure Real Estate Investment Trusts (REITs) External capital Market-to-book Leverage ratio