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What is pecking order theory in financing?

What is pecking order theory in financing?

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The pecking order theory says that a compay should use its retained earnings to finance itself, if it has not enough retained earnings then company should borrow debt and as a last resort company go for issuing of new equity to finance itself.

This pecking order thory can be a signaling to investors. If company finaces itself by retained earnings that means company is in strong position, If company borrows debt it means company management has confindence that it can meet the monthly debt obligations and If company issues new equity for financing it signals that company is in weak position and shares are overvalued and company wants to make money prior to its share price falling.

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