Pecking order theory and church debt financing: Evidence from the United Methodist church

In the United States, religious congregations, as an important subset of the nonprofit sector, attract the most civic participation. Unlike other tax-exempt organizations, churches do not file the annual tax informational Form 990 to the Internal Revenue Service, following the traditional notion of separation of church and state. Due to such an exemption, the church financial market exhibits a more severe information asymmetry problem than the corporate or nonprofit financial markets. The pecking order theory in corporate finance postulates that information asymmetry increases external financing costs, resulting in organizations demonstrating a pecking order of preference: internal funding first, then debt, and lastly, equity. This article presents the first known attempt in examining the pecking order theory in the context of church organizations, which is a large but opaque subset of nonprofit organizations. By examining the revenue and capital structures of over 30,000 United Methodist churches from 2005 to 2018, we find evidence that supports a pecking order in church mortgage loan borrowing. This study increases our understanding of church finance and congregational capital structure. It highlights the value of transparency in the church capital market and fills a significant gap in both the nonprofit finance research and the religious sector literature.