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IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 20152019 IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 20152019 IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 20152019 IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 20152019 IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 20152019
Dissertation submitted in partial fulfillment of the Requirement for the MSc in Finance FINANCE DISSERTATION ON IMPACT OF CAPITAL STRUCTURE ON PERFORMANCE OF VIETNAMESE FIRMS ON HANOI STOCK EXCHANGE DURING PERIOD 2015-2019 VU QUYNH ANH ID No: 19046141 Intake Supervisor: Dr Tran Ngoc Mai September 2020 EXECUTIVE SUMMARY Whether there is an existence of an optimal financial structure for each business or not and if so, how its effect on the company's performance is always a topic that attracts a lot of attention and controversies from scholars for decades In fact, a successful manager is someone who can determine the optimal capital structure by minimizing the company's financial costs and thereby maximizing company profits It can be seen that capital structure affects company performance This paper aims to examine the impact of capital structure on the performance of firms listed on the Hanoi stock market in the period 2015 to 22019 Based on the theoretical basis of capital structure and factors affecting the business performance of the business from a number of previous related studies, both in Vietnam and abroad, the author conducts the model construction and proposes research hypotheses The data used in this study is collected from the public financial statements of 100 companies listed on the Hanoi Stock Exchange for the period 2015-2019 Data after collection were processed on Eviews software for results The results are then analyzed and discussed Part of the author's research results are consistent with the previous research results; part of the results is not Based on the research results, the author has proposed a few recommendations to improve the performance of enterprises TABLE OF CONTENTS 2 3 LIST OF TABLES CHAPTER I: INTRODUCTION The relationship between capital structure theory and the performance of businesses has been one of the subjects that have attracted the interest from scholars in the area of corporate finance for decades In the world, there are many studies analyzing the effect of capital structure on business overall performance of companies (Shah, 2014; Abeywardhana, 2016; Mouna, et al., 2017) In terms of negative impact, Khan's study (2012) showed that financial leverage as measured by short-term debt to total assets and total debt to total assets has a significant negative relationship with the performance of the business measured equal to the income index on total assets, gross profit margin and market business efficiency index (Khan, 2012) The relationship between financial leverage and firm's performance as measured by return on equity is negative but negligible The results of this study are similar to the findings of Umar et al (2012), Alawwad (2013), Salim and Yadav (2012), Zeitun and Tian (2007), Yana (2010), Abor (2005) Therefore, the high level of debt in the capital structure will reduce the business performance of the business and recommend that managers should not combine too much debt in the capital structure of the business but should rely more on internal funds and funds from shareholders of business (Khan, 2012) In terms of positive impact, capital structure also positively affects business performance of enterprises Specifically, studies of Khatab et al (2011), Ebrati et al (2013), Nirajini and Priya (2013) have shown a positive relationship between capital structure and business performance of enterprises (Khatab et al., 2011; Ebrati et al.; 2013; Nirajini & Priya, 2013) Research by Stohs and Mauer (1996) suggested that larger firms are less risky when using long-term debt 4 In Vietnam, there are several studies conducted on the same topic and also found out both negative and positive impact of capital structure on effectiveness of business The research of Son and Hoang (2008) proposed the clear evidence of the effect of capital structure on business performance of enterprises Research results showed that business performance of enterprises is affected by capital structure Business performance has a positive correlation with capital structure, business efficiency has close and quadratic relationship with the capital structure of the enterprise when the debt ratio is below 100%, negatively correlated with the capital structure (Son & Hoang, 2008) The approach of the method of analyzing the path of Doan Ngoc Phi Anh (2010) has shown that business performance and financial structure have a positive impact on the return on equity and two factors This explained 90% of the rate of return on equity and can draw conclusions, businesses listed on Vietnam's stock market have used good leverage tools to improve financial efficiency (Anh, 2010) However, research by Huynh Anh Kiet (2010) revealed that corporate profits are significantly affected by variables of capital structure of total debt to total assets, total debt to equity, long-term debt term on total assets, short-term debt on total assets (Kiet, 2010) Nguyen Tan Vinh (2011) studied the relationship of companies listed on the Hanoi Stock Exchange and found a positive relationship (Vinh, 2011) Le and Phung (2013) used data of enterprises listed on Vietnam's stock market in the period of 2007–2011 to study the relationship between capital structure and firm performance and it showed that the use of debt has a positive relationship with the performance of the business (Le & Phung, 2013) The theoretical and empirical researches in the world all show that there are many different factors affecting the capital structure of enterprises Different observations and data over different time periods produce very different conclusions Therefore, when it comes to factors that have a real impact on the capital structure of the business, it is necessary to consider and analyze based on the specific characteristics of the research object At the same time, to determine the target capital structure of the business, it is necessary to base on the estimated results of the model of factors affecting the capital structure of the business In Vietnam, many studies on capital structure have been carried out However, empirical evidence on the relationship between capital structure and firm performance in Vietnam is limited and has some limitations On the other hand, previous research on capital structure of enterprises was only done for a short time of about to years Hence, it is not long enough to see a trend in the long term Therefore, this 5 dissertation, on the basis of inheriting the advantages of previous studies such as inheriting the theoretical basis of the factors affecting the capital structure of the enterprise, inherits the theoretical basis of the influence of capital structure on the business performance of the enterprises With topic "The impact of capital structure on performance of Vietnamese firms in the period of 2015 -2019", the dissertation will add the following research gaps: i) Synthesizing and giving a theoretical point of view on the capital structure of the business; ii) Analyzing the impact of capital structure on business performance of listed companies on Hanoi stock market through the implementation of quantitative research with the latest data from 2015 to 2019 6 CHAPTER II: LITERATURE REVIEW 2.1 The capital structure of enterprise Capital structure is a topic of great interest to researchers The first concept of capital structure was the postulate of Modigliani and Miller published by using these two authors in 1958 After that, the theory of capital structure was further researched and developed by researchers The static trade off theory, dynamic trade off theory, theory of Modigliani and Miller, pecking order theory and market timing theory are most significant theories on capital structure in the records of empirical research and studies about this issue This part focuses on providing definitions of capital structure as well as literature review on theories of capital structure 2.1.1 Definition of capital structure Capital structure, also known as financial leverage, is the percentage of total debt to total assets of a firm at a given time (Saad, 2010) The capital structure involves the use of borrowings The downside of debt is that the more debt the enterprises borrow, the cost of financial exhaustion will occur, and at some points the present value of the cost of financial exhaustion will suppress the present value of the tax shield from debt (Modigliani & Miller, 1963) The cost of debt has a significant impact on business operations, even leading to the closure of the business Financing from equity does not create the cost of capital for businesses, but shareholders can interfere with the operations of the business High expectation on the business performance of investors also creates considerable pressure on the management team Another condition of the optimal capital structure is to consider the business situation of the business which is the earning before tax and interest (EBIT) must overcome the bladder point so that the business can take advantage of its debt balance (Addae, et al., 2013) One of the difficult issues of corporate finance managers is how to build the capital structure of the business, how much equity, how much bank loans to maximize business value or optimal capital structure construction (Saad, 2010) This is an interesting issue both in theoretical research and in practical application With the optimal capital structure, it is possible to increase the enterprise value by using appropriate financial leverage ratio Under this approach, businesses can lower the cost of capital through increasing debt use because debt costs are lower because there are tax savings However, as the debt ratio increases, so does the risk, so investors (directly and indirectly) require an increase in profits, at some point the benefits of tax savings enough to offset the increase in the average cost of capital, making 7 the benefits of debt use no longer available (Ajanthan, 2013) Thus, if the capital structure of the business is financed by 100% equity, on the one hand, it shows that the enterprise is active in capital (not dependent on external capital) and has no financial risks, but on the other hand, businesses also incur a high average cost of capital as the cost of equity is often higher than the cost of debt In contrast, when an enterprise uses debt to finance its capital structure, it can reduce the average cost of capital of the business, but it can increase the risk in debt repayment, especially in in case the enterprise uses a debt ratio that is too high to exceed a certain limit, in addition to making the payment risk increase, the average cost of capital is increased This makes the business always have to set up an optimal capital structure to minimize financial risks and reduce the average cost of capital (Zeitun & Tian, 2007) 2.1.2 Theoretical background 2.1.2.1 Theory of Miller and Modigliani (M&M theory) Miller and Modigliani (1958) argued that in a perfect market, capital structure does not affect firm value (Modigliani & Miller, 1958) Therefore, there is no most effective capital structure for a unique business However, the assumptions of a perfect market such as no transaction costs, no taxes, proportional information, interest rates equal to risk-free rates are not suitable for the operating environment of the above enterprise in reality Therefore, the researchers make the assumption that firm value and firm's performance are affected by capital structure Modern capital structure theory has been around since 1958, when Franco Modigliani and Merton Miller announced M&M theory is stated into two important clauses The first clause mentioned about business value The second clause claimed about the cost of capital These propositions, in turn, will be considered in two cases corresponding to two main assumptions: with and without corporate income tax M&M theory in the absence of tax: With some assumptions including no corporate income tax and personal income tax, no transaction costs, no bankruptcy costs and no financial distress costs, same interest rates for both individuals and businesses and perfect capital market, the content of M&M theory is stated in two clauses The first clause: Enterprise value: in the absence of tax, the value of a business with debt is equal to the value of an enterprise without debt The second clause: cost of capital: the required return on equity is positively related to the level of leverage or debt ratio, expressed as the following formula: 8 o rs = r0 + (r0 – rB) B / S Notes: rs: the required or expected return on equity r0 is the cost of capital use if an enterprise uses 100% equity rB: interest rate or cost of debt B: The value of the debt or bond of the issuing business S: is the value of an enterprise's equity M&M theory in case of taxation: With taxation, the M&M theory has been stated in two clauses The first clause: the value of enterprises in the case of tax: in the case of corporate income tax, the value of levered enterprise is equal to the value of unlevered enterprise plus the present value of the tax shield provided by debt expressed as the following formula: VL = VU + Btc The second proposition: The cost of capital in the case of a tax: the required return on equity is positively related to the level of leverage or debt ratio rs = r0 + (r0 – rB) (1- Tc) B / S The M&M theory of capital structure is considered a modern theory that explains the relationship between firm value, capital cost and debt usage level of the business However, the M&M theory has not considered the impact of some other costs, leading to the reduction of tax benefits and the elimination as businesses increase debt ratio When an enterprise increases debt usage, its risk increases accordingly This results in expenses such as financial distress costs that simultaneously impact the benefits of the tax shield, to a point where they will outweigh the benefits of the tax shield At that point, called the optimal capital structure point, the value of the business is maximized Inheriting the research results of Miller and Modigliani, a series of theories on capital structure were introduced to explain the capital structure of enterprises, including: static trade theory, dynamic trade theory, order theory and market timing theory 2.1.2.2 Agency costs theory In financial management, the problem of agents always contains potential conflicts of interests between shareholders or investors and business managers Jenshen and Meckling (1976) argued that there are two types of agent conflicts: owners and business managers and creditors For conflicts between the owner and the manager, the representative problem arises when the manager owns less than 100% of the equity As a result, the owner does not gain all the profits from the profit enhancement activities of his business, but he incurs all the costs for these activities (Jensen & Meckling, 1976) In 9 order to reduce agent conflicts, the owner agrees to pay agent costs, such as expenses to monitor operations (audit activities), expenses to restructure the organization to limit acts undesirable, and opportunity costs when shareholders impose limits on management Conflicts between creditors and business owners appear in loan contracts, when taking into consideration loan levels for investments However, if the investment is unsuccessful, the business owner will suffer some loss due to the limited liability of the investment As a result, business owners may be at a disadvantage from investing in highrisk projects (Jensen & Meckling, 1976) And creditors often offer a mechanism to protect themselves by establishing restrictive terms in loan contracts These provisions impede businesses' operation in certain respects Businesses are also monitored to ensure that the terms are followed The costs in this case are transferred to the owner in the form of higher borrowing costs For small businesses, the representation problem is more serious than large businesses because small businesses are not required to disclose information, thus leading to significant costs when providing grant information to outsiders Studies on agency costs show that, similar to the case of financial bankruptcy, agency costs reduce the benefits of debt financing In this model, Jenshen and Meckling (1976) suggested that an optimal capital structure can be achieved by balancing agency costs with the benefits of debt use The theory of agency costs is a concern for small businesses because agency costs arise from the underlying conflicts of interest between the owner and the creditors (Panda & Leepsa, 2017) 2.1.2.3 Static trade-off theory This theory is called the trade-off theory of financial leverage Businesses trade the tax benefits of debt financing with bankruptcy-related problems Miller and Modigliani (1963) loosened assumptions by considering corporate income tax as a factor determining capital structure (Modigliani & Miller, 1963) From a corporate perspective, using debt can increase a firm's value due to the benefits of the tax shield from debt Therefore, according to Miller and Modigliani (1963), businesses should use debt as much as possible to maximize business value (Modigliani & Miller, 1958) However, the excessive use of debt also incurs costs for businesses such as financial draining costs and agency costs (Jensen and Meckling, 1976; Myers, 1977) The static trade-off theory considers an objective (optimal) capital structure of an enterprise that is determined by the trade-off between the marginal benefit of tax (tax shield) and the associated cost to debt (cost of financial exhaustion and agency costs) As the firm raises its debt-equity ratio, the 10 10 10 CHAPTER IV: EMPIRICAL ANALYSIS 4.1 Findings 4.1.1 Matrix analysis of correlation coefficients: The correlation coefficient matrix gives us a first look at an overview of the relationships of variables Based on the correlation coefficient matrix, it is possible to detect models with or without multi-linear phenomena Table 5: Result matrix correlation coefficients between variables FIRM LEV TANG LIQUIDITY TAX ROA SIZE FIRM SIZE 1.000000 0.240042 0.178301 0.000893 0.119592 0.071051 LEV 0.240042 1.000000 0.093110 0.007197 -0.315740 -0.351686 TANG 0.178301 0.093110 1.000000 -0.019063 0.189095 0.051151 LIQUIDITY 0.000893 0.007197 -0.019063 1.000000 -0.027437 -0.013332 TAX 0.119592 -0.315740 0.189095 -0.027437 1.000000 0.579923 ROA 0.071051 -0.351686 -0.051151 -0.013332 0.579923 1.000000 Source: Outcome of data analysis on Eviews Table shows the correlation between the two groups: (1) between explanatory and dependent variables, (2) between independent variables (1) Correlation between explanatory and dependent variables The correlation coefficient matrix results show that there are two explanatory variables that are negatively correlated with the performance of enterprises, including: financial leverage (X2) and liquidity (X4) However, the correlation coefficient is very low The remaining variables are positively correlated with performance, including: firm size (X1), tangible fixed assets (X3) and taxes (X5) However, the correlation results between the explanatory variables and the dependent variables are only a general view, to get accurate results, it is through testing and selecting regression models (2) Correlation between explanatory variables: Correlation coefficient between different pairs of independent variables The strongest negative correlation between the variables Financial leverage (X2) and Tax (X5) is at -0.31 The strongest positive relationship lies with the tax variable (X5) and fiscal year (X6) at 1.694 It can be seen that the correlation coefficients between the explanatory variables at different levels, but in general, the correlation coefficients are very low, except for a few cases of high positive correlation It should be concluded that there is no multicollinearity phenomenon in this research model However, this is only a general conclusion about the prediction of 33 33 33 multicollinearity phenomenon in the research model to have an accurate conclusion whether the multi-linear phenomenon is required, the multi-collinearity phenomenon test must be performed through the variance magnification coefficient (VIF), if VIF> 10, the multi-collinear phenomenon occurs in the model and vice versa 4.1.2 Analysis of regression results 4.1.2.1 Testing the phenomenon of multi-collinearity If the coefficient is greater than 10 (VIF> 10), the multicollinearity test (VIF> 10) should be eliminated another equivalent variable The testing of multicollinearity phenomenon between independent variables helps the study to select a more complete model Table 6: VIF test results Variance Inflation Factors Variable FIRM SIZE LEV TANG LIQUIDITY TAX C Coefficient Variance 7.07E-06 0.000150 0.0001113 1.73E-09 0.000407 0.000255 Uncentered Centered VIF VIF 58.39559 1.126906 8.355923 1.235507 2.806163 1.081064 1.009888 1.000997 2.349002 1.214393 52.50462 NA Source: Outcome of data analysis on Eviews Table shows that the VIF values of the variables are all less than 10, so the model does not have multi-collinear phenomenon 34 34 34 4.1.2.2 Analysis of OLS FEM and REM Table 7: OLS FEM REM test results Independent Coefficients Variable Pooled OLS 0.005496** (prob.) FEM 0.010183*** REM 0.009799*** (0.0393) -0.057669 (0.0000) -0.049197*** (0.0000) -0.048970*** (0.0000) -0.043260*** (0.0002) -0.013203 (0.0000) -0.027089** (0.0001) -1.14E-07 (0.4223) 3.33E-06 (0.0421) 2.92E-06 (0.9978) 0.279146 (0.8543) 0.317990 (0.8715) 0.308701*** (0.0000) 0.040876 (0.0000) -0.005332 (0.0000) 0.001735 (0.0108) 0.391869 0.253513 62.37613 0.000000 (0.6468) 0.926609 1.959893 47.31522 0.000000 (0.8837) 0.426005 1.581724 71.84265 0.000000 FIRM SIZE LEV TANG LIQUIDITY TAX C R-Square D-W ratio F-statistic Prob (F-statistic) Note: *** p-value < 0.01; ** p-value < 0.05; * p-value