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Inefficient-investment of China’s Listed Companies and Debt Constraints

Author: WangZuoFu
Tutor: YangDan
School: Southwestern University of Finance and Economics
Course: Accounting
Keywords: inefficient-investment Current liability Long-term Liabilities Debt constraints
CLC: F832.51
Type: Master's thesis
Year: 2010
Downloads: 272
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Abstract

The investment of enterprises is the activities which the enterprise allocates its funds, corporate investment has always been a hot issue in academic circles. Because the investment of enterprises, especially in the return on investment is directly related to the enterprise can achieve its goal of maximizing value. In other words, companies must invest in order to continuously promote their growth, the efficiency of the corporate investmen, would affect the ability of the business in the fierce market competition, not only bigger, and stronger in order to achieve the sustainable development of themselves.Reform and opening up 30 years ago, especially in the past 10 years, Chinese socialist market economy, continue to make new achievements, with the attendant is the company’s rapid development and more investment. According to the National Bureau of Statistics show that since 2003, Chinese ratio of total fixed asset investment growth are all around 25%, while the first half of 2009, total fixed asset investment in the real growth rate reached a record above 35%. Faced with such a large scale of investment, we can not help wondering the efficiency of these investments and whether the investment really has brought the companies considerable economic benefits. However, the failed stories such as "Delong System", the Houwang Group, "Toop Team" and other classic cases tell us the investment of Chinese companies is not completely efficient, there are still a lot of non-profit projects that are over-investment projects. In this paper, drawing on Richardson Model(2006),we use Chinese A-share listed company from 2005 to 2007 as the sample to calculate the efficiency of Chinese listed companies and we find that the most of China’s listed companies is over-investment.Facing the Over-investment, the non-efficiency investment behavior, how to deal with it, and how to improve its efficiency have become both an academics and a practical issue that need urgent solution. In academia, scholars are mainly from the principal-agent theory and asymmetric information theory to explain the over-investment behavior of companies, in addition some other angles such as behavioral finance theory also explain this issue and have formed some useful research results. Based on information asymmetry theory’s study indicated that, ’MM theory, the choice of investment on the company under any situations is the project’s expected rate of return as the standard, not subject to any type of impact of financing statement, is in full capital market conditions, but the assumption of full capital market does not exist in reality, asymmetric information is widespread. Myers’(1984) study ect. pointed out that the information of borrowers and lenders is asymmetrical which may generate the financing constraint, such companies facing financing constraints may be forced to abandon a positive NPV investment opportunities, creating investment inadequate; and when the company’s securities of invest projects in the capital market are overvalued, it will lead to over-investment. By Jensen, represented by scholars based on the principal-agent theory, put forward the free cash flow interpretation, Jensen (1986) ect. pointed out, due to the separation of management and ownership, information asymmetry and monitoring costs exist, when the companies have a large number of free cash flow, managers have the resources to invest in the motivation for non-profit project, resulting in over-investment behavior. Based on this, with Jensen as the representatives of the academic studies suggest that the company’s debt can be alleviated to some extent a proxy conflict, by increasing the level of corporate debt to increase the efficiency of investment, that debt is not only a financing tool, but also a means of governance.The role of this treatment stems from the nature of the liabilities of their own, that is, ordinary course of business circumstances, the creditors according to the contracts to obtain a fixed interest debt, creditors do not own the right of residual control of enterprises; but when the company goes to bankruptcy, the creditors through the liquidation of the residual claim to obtain business. Therefore, the debt can be reduced the agency costs from two aspects of the conflict between shareholders and managers, on the one hand, debt of principal and interest payments can reduce the disposal of free cash available for managers; the other hand, debt make the managers face more monitoring and bankruptcy risk, if companies can not afford to repay debts on time, then the control of the company would go to all the creditors, managers will lose many interests from the company. So, a small degree of debt or liability of corporate managers can not affect the rights and welfare of their own by reducing returns to shareholders, while the high-debt business managers are more difficult to do so.Whether the debt of listed companies in China plays the role of constraints on the over-investment is the issue of this paper, we considered the relative researches, and use Richardson’s model of to calculate the indicator of the over-investment of China’s listed companies. With through the empirical analysis we concludes that Overall the corporate governance role of debt to over-investment is less obvious, long-term debt of over-listed companies did not play a binding role in investment behavior due to the repayment pressure of long-term liabilities of enterprises is small, but very likely to provide financial support for their investments. Further according to the ultimate controller of the companies, we classified the sample as non-state-controlled listed companies and state-controlled listed companies, and then the state-controlled listed companies are subdivided into the central control and local control. From the regression results we see:the role of debt constraints for non-state-owned listed companies in investment behavior is stronger, short-term debts to non-state-owned enterprises play a constraint to the over-investment, but investment behavior of state-owned listed companies the debts’effect is limited. Compared with the central controlled state-owned listed companies, short-term debt may have some effect, but local state-owned listed companies, the role is the weakest. Long-term debt is useless to the over-investment behavior of enterprises play a bound control effect.It can be seen that although the behavior of corporate over-investment is a typical non-efficiency investments, but in a certain environment and markets, it is not entirely irrational., China particularly the current in the primary stage of socialism is in the reform period, many state-owned listed companies came through restructuring, and still retain a lot of non-market-oriented factors and signs. Thus, China’s state-owned listed company or its parent company undertook many "policy burdens", the Government will have to give them various forms of support, including the intervention of banks, particularly state-owned commercial banks’ lending policies and so on, so that the effect of debt was "softening", corporate insiders produce the expected soft budget constraint (Lin Yifu,2004; Tian Hui, 2005), and in order to achieve these "policy" of objectives, as well as to meet the self-interests of the managers and government officials, over-investment behavior will be more easily happened. From the perspective of the cash flow, as the lending banks, the largest capital supply side in China’s financial market, are controlled by the government. They lack the incentives to monitor the debtor’s managers, make the debt constraints in state-owned listed companies do not play its due role. At the local level, policy reforms on the fiscal decentralization of local government into a strong independent interest part, these local state-owned listed companies are very important on the local economy and social development, a lot of public objectives even the monopoly rents by some government officials mainly depend on such companies in their area. Therefore, the state-owned listed companies, especially local control of these state-owned listed companies, the inefficient of debt constraints seems to be a rational choice of such companies.Finally, we point out these policy recommendations:1. Strengthen the state-owned commercial banks reform, try to reduce government interference between banks and enterprises.2. Guide and encourage the development of bond markets and expand the financing tools of enterprises.3. Deepen fiscal and tax reform, and to improve the assessment of government officials. Try to create a more fair and reasonable market.

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