INTRODUCTION

Issues regarding the interface between corporate financial structure and corporate growth have gained prominence in the recent years, especially in the context of the fast changing institutional framework in the financial markets in many countries. More importantly, the institutional set-up within corporate houses operated in the regulated era has undergone substantial transformation over the last two decades. The move toward market-driven allocation of resources, coupled with the widening and deepening of financial markets, including the capital market, and the stringent disclosure and transparency practices consequent upon initial public offerings, have provided greater scope for the corporates to determine their financing structure and introduce better growth enhancing practices. A fast growing literature has analysed the relationship between financial structure and corporate growth [see among others, Fazzari et al. (1988), Whited (1992), Rajan and Zingales (1988) Devereux and Schiantarelli (1989) Hoshi et al. (1991) Mills et al. (1994)]. For instance, Fazzari et al. (1988) have empirically shown that while capital market informational problems arise at the level of the firm, financial constraints have a clear macroeconomic dimension because fluctuations in firms' cash flow and liquidity are correlated with movements of the aggregate economy over the business cycle, and that in general unlike the neoclassical investment theory, financial factors do affect investment decisions. In other words, according to the financial constraints hypothesis by Fazzari et al. (1988), financial structure of firms in terms of cash flow and debt affects investment when there exists a wedge between the costs of internal and external finance in an imperfect financial market. The question of the financing choice of firms is critical in this regard because the cost of capital and hence the value of a firm depends upon its debt-equity mix (Pagano 1993).

A large volume of research has tested this hypothesis by focusing on the sensitivity of cash flow on firms' investment and growth [see, among others, Devereux and Schiantarelli (1989) Hoshi et al. (1991) Mills et al. (1994)], Bond et al. (2003), Fagiollo and Luzzi (2006) Harris et al. (1994)].