Evidence on market to book value and firm performance a study of listed firms in vietnam

Therefore, the problem to be addressed in this study focus on the effect of price to book value, which is a proxy of growth opportunity, together with leverage ratio and firm size on fir

NGUYEN TUONG PHUONG

EVIDENCE ON MARKET-TO-BOOK VALUE

AND FIRM PERFORMANCE:

A STUDY OF LISTED FIRMS IN VIETNAM

MASTER THESIS

Ho Chi Minh City – 2011

NGUYEN TUONG PHUONG

EVIDENCE ON MARKET-TO-BOOK VALUE

AND FIRM PERFORMANCE:

A STUDY OF LISTED FIRMS IN VIETNAM

MAJOR: FINANCE & BANKING

MAJOR CODE: 60.31.12

MASTER THESIS INSTRUCTOR : DR TRUONG TAN THANH

Ho Chi Minh City – 2011

i

Thanh for guiding me throughout this thesis

My appreciation to all of my teachers at Faculty of banking and finance, University of Econimics Hochiminh City for their teaching and guidance during

my MBA course

I would like to dedicate my deepest gratitude to my parents and my uncle for their support and encouragement

ii

proxy of growth opportunity) and firm performance based on capital structure theory, tradeoff theory and costly external financing theory, and other studies relative to this topic The author uses cross-sectional data 2009 and 2010 of 70 listed companies in Vietnam to investigate the effect of market to book on firm‟s performance As the results of this study, price to book value is the important determinant of firm performance This finding supports the argument

of Xu et al (2005), Fairfield (1994), Block (1995), Frank et al (2005) and Myers

et al (1984) Firm leverage has significant and negative impact on firm‟s performance, which is consistent with the results of Modigliani and Miller (1958), Robichek and Myers (1966), Jensen and Meckling (1976), Frank et al (2005) Firm size has negative and significant correlation with firm‟s performance, which contrasts with Titan & Zeitun (2007) Beta has negative influence to market to book ratio This finding is consistent with Damodaran (2002), Myers and Majluf (1984), Baker and Wurgler (2002), Harris and Marston (1994) Firm performance in 2009 has positive influence to growth opportunity (Pb) in 2010 This result favours Damodaran (2002), Block (1995) Industry has influence to firm‟s performance

Keywords: Market to book value, corporate performance, Vietnam, HOSE,

HNX

iii

TABLE OF CONTENTS - iii

LIST OF FIGURES - iv

LIST OF TABLES - v

CHAPTER 1: INTRODUCTION - 1

1.1 BACKGROUND - 1

1.2 RATIONALE - 2

1.3 RESEARCH PROBLEMS - 6

1.4 RESEARCH OBJECTIVE - 7

1.5 RESEARCH METHODOLOGY AND SCOPE - 8

1.6 STRUCTURE OF THE STUDY - 9

CHAPTER 2: LITERATURE REVIEW - 10

2.1 INTRODUCTION - 10

2.2 CASHFLOW INTO EMERGING MARKETS - 10

2.3 PRICE TO BOOK VALUE - 12

2.4 FIRM PERFORMANCE - 14

CHAPTER 3: RESEARCH METHOD - 17

3.1 INTRODUCTION - 17

3.2 DATA - 17

3.3 RESEARCH METHOD - 17

3.4 RESEARCH SAMPLE - 18

3.5 VARIABLES MEASUREMENT FOR MODEL - 19

3.5.1 Dependent Variables - 19

3.5.2 Independent Variables - 20

3.6 HYPOTHESIS AND EMPIRICAL MODEL - 24

3.7 SUMMARY - 29

CHAPTER 4: EMPIRICAL RESULTS OF THE RESEARCH - 30

4.1 INTRODUCTION - 30

4.2 CHARACTERISTICS OF RESEARCH SAMPLES - 30

4.3 DESCRIPTIVE STATISTICS - 31

4.4 QUANTILE ANALYSIS - 39

4.5 REGRESSION ANALYSIS - 43

4.5.1 Model 1: The firm performance model - 43

4.5.1.1 ROE as Firm Performance proxy - 43

4.5.1.2 EB as Firm Performance proxy - 50

4.5.2 Model 2: The Market to Book model - 56

CHAPTER 5: CONCLUSIONS, RECOMMENDATIONS AND LIMITATIONS - 60

5.1 INTRODUCTION - 60

5.2 CONCLUSIONS - 60

5.3 RECOMMENDATIONS - 62

5.4 LIMITATIONS - 62

REFERENCES

GLOSSARY

APPENDIX A

APPENDIX B

iv

Figure 2: Distribution of Market to Book and Leverage ratios - 38

v

Table 2: Summary of Statistics of Market to Book of other Countries in 2010 - 11

Table 3: Summary of Statistics of Return on equity of other Countries in 2010 - 11

Table 4: Summary of Variables for model - 24

Table 5: Summary of Statistics and Correlation of the Variables for Year 2009 - 31

Table 6: Summary of Statistics and Correlation of the Variables for Year 2010 - 33

Table 7: Classification by ROE in 2009 - 39

Table 8: Classification ROE in 2010 - 40

Table 9: Classification by EB in 2009 - 40

Table 10: Classification by EB in 2010 - 40

Table 11: t-test for Two-Sample Assuming Unequal Variances - 42

Table 12: Estimate results using ROE and LTDTA in 2009 - 43

Table 13: Estimate results using ROE and LTDTE in 2009 - 44

Table 14: Estimate results using ROE and TDTE in 2009 - 45

Table 15: Estimate results using ROE and LTDTA in 2010 - 45

Table 16: Estimate results using ROE and LTDTE in 2010 - 46

Table 17: Estimate results using ROE and TDTE in 2010 - 47

Table 18: Estimate results using EB and LTDTA in 2009 - 50

Table 19: Estimate results using EB and LTDTE in 2009 - 50

Table 20: Estimate results using EB and TDTE in 2009 - 51

Table 21: Estimate results using EB and LTDTA in 2010 - 52

Table 22: Estimate results using EB and LTDTE in 2010 - 52

Table 23: Estimate results using EB and TDTE in 2010 - 53

Table 24: Estimate results for market to book using ROE - 56

Table 25: Estimate results for market to book using EB - 57

Table 26: Estimate results using EB excluding two dummy variables - 58

Table 27: Summary of empirical results - 60

1

CHAPTER 1 : INTRODUCTION 1.1 BACKGROUND

The theory of the capital structure is important framework for studies of the correlation between capital structure and firm performance It suggests that

in the determined target ratio, firm„s performance has positive correlation with debt financing ratio and reduce agency cost In contrast, when the debt ratio exceeds a certain level, firm‟s performance has negative correlation with leverage ratio due to that fact that benefits from the increase in borrowing less than the increase in agency cost Tran (2008) tested the relationship between capital structure and firm performance by using data sample of 50 non-financial companies in Ho Chi Minh Stock Exchange The results show that firm performance has negative correlation with capital structure when debt to equity ratio is more than 1.812; firm performance has positive correlation with capital structure when debt to equity ratio is less than 1.812 As stated that the MM theory1 is an important part in firm‟s financing policy In addition, tradeoff theory2 and costly external financing theory3 focus on a relation that price to book ratio plays in making financing decisions Therefore, the effect of price to book on firm performance is the focus of this thesis

Damodaran (2002) provides evidence that the most important determinant

of price to book value is return on equity, and investors should focus on the mismatch between return on equity and price to book Block (1995) argues that there is a good linear between price to book value ratio and earning to book value ratio (a proxy of profitability) Xu et al (2005) argue that growth opportunity has strong relation to firm‟s performance, which is measured by return on equity (ROE)

2

There is a lack of empirical evidence on a relationship between market price to book value ratio and firm performance for Vietnam Accordingly, the first objective of this study is to examine possible correlation between firm‟s performance and market to book value Tran (2008) finds an insignificant correlation between growth opportunity and firm‟s performance for 50 non-financial companies in Ho Chi Minh Stock Exchange in September 2008 Thus, the second objective of this study is to examine the effect of growth opportunity, which is measured by market to book ratio, on firm‟s performance

1.2 RATIONALE

This study contributes to literature in two directions: (1) by using ordinary least square regression model and quantile analysis to investigate the relationship between firm‟s performance and market to book; (2) by using different measure of firm‟s performance such as earning to book to investigate the impact of market to book on firm‟s performance to complement one more measure to return on equity ROE, return on asset ROA, tobin‟s Q of previous studies in Vietnam This study also finds a strong relationship between market

to book and firm performance

In practice, the mismatch between the market to book and firm performance proxied by return on equity (ROE) provides investors the market

to book comparables approach The example as bellows shows the market to book comparables approach

1996 1997 1998 1999 2000

Five year average

Current

AFC 1.0 1.1 1.4 1.4 1.6 1.3 0.8 9.5% 1.10 AFG 1.5 1.5 1.6 1.2 1.0 1.4 1.0 13.5% 0.95 SAFC 1.2 1.2 1.1 0.8 0.9 1.0 1.1 10% 1.05 ORI 1.4 1.6 1.4 0.6 1.6 1.3 1.2 11% 0.90

(Source: Morningstar; The Value Line Investment Survey for ROE forecasts)

As the table 1 shows, ORI is selling at PB of 1.2, which is 55 percent of the industry mean The current market to book of ORI is lower than market to book

of previous years, and lower than five year average of 1.3 Forcasted return on equity of ORI equals industry mean, and higher than the other firms such as SAFC, AFC Beta is lower than the others Therefore, ORI is relatively undervalued with SAFC and AFC

AFG is selling at PB of 1.0, which is 45 percent of the industry mean The current market to book of AFG is lower than market to book of previous years, and lower than five year average of 1.4 Forcasted return on equity of AFG is higher than the industry mean, and highest in all firms Beta is lower than the others such as SAFC, AFC Therefore, AFG is relatively undervalued with SAFC and AFC

4

When comparing AFG to ORI, market to book of AFG is lower than one of ORI

by 0.2, a higher forcasted ROE than ORI, only a 0.05 higher than ORI in beta

So, we conclude that AFG is relatively undervalued with ORI, and we should choose AFG for investment

For managers, they may consider market to book as a proxy of growth opportunity to improve their firm‟s performance Firms with high growth opportunity have more chance to access cheap equity; accordingly, reduce leverage ratios to maximize profit From viewpoints of investors, they tend to favor high growth companies and they are willing to finance firms‟ profitable projects In addition, if a company has a high leverage ratio, investors incline to reduce their investment to firm‟s project because benefits to creditors exceed benefits to investors Because of high growth opportunity, companies attract to sources of funds should gradually reduce its reliance on debt and reduce leverage When keeping lower current target ratios, they easily take advantages

of arising future opportunities and have a good firm performance For instance,

Ho Chi Minh City Infrastructure Investment Joint Stock Company (stock code: CII) has successfully issued 40 million convertible bonds with a 5 year term for Goldman Sachs Why does Goldman Sachs invest in a firm in Vietnam such as CII? Firstly, the construction industry in Vietnam has high potential to grow associated with the urbanization rate Issues of infrastructure and urbanization are the challenges for Vietnam More than ever, to attract and to promote the efficiency of all resources in society, Vietnam needs to invest huge amounts of capital into this sector, while the ODA loans are decreasing Therefore, developing internal resources, efficient use of indirectly invested resources in the form of BOT (build-operate-transfer), BOO (build-operate-own) is encouraged more than ever Secondly, CII is a leading enterprise in the field of

5

investment and development in infrastructure Despite of good growth rate and high profitability, CII still has been evaluated as an infrastructure company with moderate level of sales, profit and potential growth Transparency of CII demonstrated in efficiently managing toll booths to minimize loss of money, which is the problem in the field of infrastructure CII efficiently manages risk

by investing in projects that meet the affordability of most people Each subsidiary with its projects must exist based on financial independence The company also minimize the negative impacts of interest rate factors and inflation factors on the projects as well as effective cost management CII also demonstrates efficiency in clever combination between the safe investments (toll booths, water treatment) and speculative invesments (financial investments, real estate investments) and invests mobilized capital in profitable projects In short, five elements which are highly potential growth of industry, undervaluation, transparency, efficient risk management and efficiency attract Goldman Sachs in making investment decision into CII Consequently, CII gradually reduced reliance on bank loans and have chance to access future opportunities With the reputation of Goldman Sachs, some foreign banks have offered loans to CII for operating activities with interest rate approximately 3% This cooperation is expected to give this company opportunities to access other sources of investment capital on the world financial markets and to strengthen ability to access important infrastructure projects in Vietnam later In short, a firm with high growth opportunity will have high firm performance from cheap sources of capital This also helps gradually reduce its reliance on bank loans and reduce bankruptcy cost (leverage) to attract investors This also implies that

a firm with good performance during the given period could take advantage of future opportunities

6

In summary, this study provides implications for investors regarding the relationship between market to book and firm‟s performance For managers, they may consider market to book value as a proxy of growth opportunity to improve their firm‟s performance

1.3 RESEARCH PROBLEMS

There is a lack of empirical evidence on the relationship between market price to book value ratio and firm performance Tran (2008) tested the relationship between capital structure and firm performance by using data sample of 50 non-financial companies in Ho Chi Minh Stock Exchange in September 2008 The results showed that there was an insignificant correlation between growth opportunity and firm performance, which was measured by average of return on assets and return on equity The author did not use the price

to book value as a proxy of growth opportunity, and used growth of total assets

as a proxy of growth opportunity

Block (1995) used a sample of 30 Dow-Jones Industrial Average stocks from 1949 to 1962 to investigate the price to book relationship The author used scatter graph to show that there was a good linear between price to book value ratio and earning to book value ratio Damodaran (2002) used the COMPUSTAT database from 1987 to 1991 to investigate the price to book value relationship The author used quantitative regression analysis with cross sectional data for each year to show that the most important determinant of price

7

to book value was return on equity In Vietnam, there is no empirical evidence related to the effect of price to book value on firm performance

Therefore, the problem to be addressed in this study focus on the effect

of price to book value, which is a proxy of growth opportunity, together with leverage ratio and firm size on firm performance, which is measured by earnings to book value and return on equity of listed firms in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange The effect of firm performance, which is measured by return on equity and earnings to book value, combined with beta on price to book value is the supplement of this study

8

 Based on Xu et al (2005), Frank et al (2005), Titan & Zeitun (2007), this study determines the effect of market to book on firm performance after controlling for firm size (ln(sales)), firm leverage (long-term debt-to-total debt, long-term debt to total assets, total debt

to total equity)

 Based on Damodaran (2002), Block (1995), this study determines if lagged firm earnings (earnings-to-book value, ROE) on firm growth opportunities (proxied by market-to-book) after controlling for firm risk (beta)

1.5 RESEARCH METHODOLOGY AND SCOPE

The study collects 70 samples, which are listed companies in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange in the year 2009 and the year 2010

Quantitative research method based on ordinary least square regression and quantile analysis to test hypotheses relative to the relationship between firm‟s performance and growth opportunity Models were used in the previous studies of Tian & Zeitun (2007), Margaritis & Psillaki (2007), Rajan and Zingales (1995), Damodaran (2002)

This study also uses data analysis tools such as descriptive statistics, multiple regression conducted by eview 6 for window and quantile analysis with t-test for difference of population means performed by excel

9

1.6 STRUCTURE OF THE STUDY

Chapter 1 presents research background of the study, rationale, research problems, research objectives, research methodology and scope and structure of the study

Chapter 2 includes the topic of cashflow into emerging markets and the literature reviews which focus on market to book value and firm‟s performance

Chapter 3 presents data, research method, research sample, variables used in models, hypothesis and emperical model in the study

Chapter 4 details the characteristics of research samples, descriptive statistics and the results of regression analysis of this study The characteristics of research samples decribes density of each sector in total samples Descriptive statistic method provides the feature of variables such as the sample means, medians, maximums, minimums, standard deviations as well as the correlation among variables The author also compares statistics of market to book ratios, return on equities between collected firms in this study to other countries Quantile analysis is used to diagnose the relationship between the firm performance and the explanatory variables Regression analysis method provides the results of the relationship between market to book ratio and firm‟s performance of listed companies in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange

Chapter 5 presents conclusions, recommendations, the limitations of this study

2.2 CASHFLOW INTO EMERGING MARKETS

In 2010, Robin Brooks, a senior specialist of foreign exchange strategy and an editor of a new report, said capital flowing into emerging markets was

575 billion dollars per year, higher than ever and reached 20% higher than average level at the moment in which the financial crisis of the world had happened EPFR Global, a research firm in Massachusetts, announced that the stock companies of all emerging markets attracted an amount worth 3.8 billion dollars in week ending on October 20th Investors invested $ 1.4 billion in bond funds of emerging markets and withdraw money from stock funds in Japan for

16 consecutive weeks U.S stock market also lost $ 1.9 billion Total amount of

money flowing into stock funds in emerging markets exceeded the record of 44.2 billion dollars in 2009 The causes are: firstly, U.S dollar relatively weaker than other currencies make money flow into emerging markets; secondly, policies in purpose of maintaining low interest rates in the developed countries encourage investors to seek higher returns in faster growing markets; thirdly, basic investments in developed countries has remained modest growth, this has promoted investors to invest money into emerging markets for higher returns Regarding to this case, Goldman claims that the amount of capital flowing into emerging markets will provide the cheap sources of capital, lower yields and boost domestic demand, at the same time, push up value of currencies and create pressure on inflation that causes a number of countries will apply the

11

policies to control foreign investment funds This implies that higher market to book value and lower return on equity make stock market of developed countries less attractive to investors than stock market in emerging countries

We can see descriptive statistics as bellows

Table 2: Summary of Statistics of Market to Book value of other Countries in 2010

Mean 3.52 2.59 1.86 2.02 9.92 1.46 6.51 3.81 Median 1.53 1.28 1.11 1.43 1.71 0.71 3.15 1.51 Maximum 263.64 233.36 61.07 56.63 3727.45 1158.07 2365.74 1294.00 Minimum 0.07 0.09 0.13 0.12 0.08 0.02 0.03 0.00 Std Dev 12.13 11.27 4.13 2.97 108.23 19.65 46.27 21.78

Note: PB = market price / book value per share

Source: http://pages.stern.nyu.edu/~adamodar/New_Home_Page/data.html

Table 3: Summary of Statistics of Return on equity of other Countries in 2010

Mean 0.05 -0.06 -0.19 -0.03 -0.85 -0.52 -0.07 0.01 Median 0.01 0.04 0.02 0.02 -0.12 0.06 0.01 0.05 Maximum 61.84 3.24 0.79 3.44 2.14 19.00 7.26 11.92 Minimum -18.80 -12.42 -30.36 -3.29 -610.55 -376.00 -19.65 -27.99

12

2.3 PRICE TO BOOK VALUE

Price-to-book ratio (PB), calculated by dividing the current common stock price by book value of a firm per share, shows how investors value the price of common stock in relation to a company‟s book value In general, PB ratio indicates investor expectation of the company‟s potential to grow: a high

PB ratio means that investors believe the firm has the high potential to grow, while a low PB ratio suggests that investors have little expectation of a firm growing

According to Gordon (1962), the price to book value is a positive function of return on equity, the payout ratio and the growth rate, negative function of the riskiness of the firm Harris and Marston (1994) used quantitative regression of book to market (the inverse of price to book) against variables for growth and risk (beta) for the large sample of companies over the period July 1982 to the period December 1989 The results showed that expected growth is negatively related to book value to market, accordingly, positively related to price to book value Risk is positively related to book value

to market and thus negatively related to price to book value Fairfield (1994) also found that price to book value is related to return on equity Xu et al (2005) also shows that there is a strong positive correlation between growth opportunity and return on equity (ROE)

Damodaran (2002) uses the COMPUSTAT database from 1987 to 1991

to investigate the price to book relationship The author uses quantitative regression analysis with cross sectional data for each year to show that the most important determinant of price to book value is return on equity The author also

13

demonstrates that the price to book value is determinded by its expected payout ratio, its expected growth rate in earnings and its riskiness An interesting finding is the mismatch between return on equity and price to book value It means that stocks, which have high price to book value and low return on equity, are overvalued and the others, which have low price to book value and high return on equity, are undervalued

The tradeoff theory argues that a firm with a higher market to book ratio expect to replace debt financing with equity financing on a net basis for their new investment opportunities because this replacement adjusts the target ratio in

a downward trend In contrast, the costly external financing cost theory argues that a firm with a higher market to book ratio favours equity issuance because it faces relatively lower costs of external equity financing Hovakimian, Opler, and Titman (2001) also shows that firms with higher market-to-book ratios have higher growth opportunities A study by Long and Zhao (2004) provides strong evidence that the roles of the market-to-book ratio in making financing decision are consistent with costly external financing theory rather than the tradeoff theory In particular, firms with high market-to-book ratios are significantly more likely to access the external markets, including issuing equity only, debt only, or both Therefore, the relationship between market to book and financing decision is still a controversial issue in finance largely and the price to book ratio could be a proxy of growth opportunity Furthermore, the costly external financing theory predicts that if higher growth opportunities are not fully obtained by higher market-to-book ratios, firms with higher growth opportunities but relatively lower market-to-book ratios may not necessarily resort to external equity financing; they may even prefer debt financing

14

Myers (1977) argues that firms with high growth opportunities tend to raise funds by equity in order to reduce agency costs and the target ratios Myers (1977) also states that firms with high future growth opportunities should use more equity financing because a higher levered company is more likely to pass up profitable investment opportunities Rajan and Zingales (1995, p 1455) use market to book value as a proxy for growth opportunity also agree that:

“The theory predicts that firms with high market-to-book ratios have higher costs of financial distress, which is why we expect a negative correlation” In contrast, the pecking order theory suggests that high growth firms should borrow more because of greater needs for funds

2.4 FIRM PERFORMANCE

Previous studies used different measures of firm performance to test hypotheses These measures included financial ratios from balance sheet and income statements4; stock market returns and their volatility5; and tobin‟s q6, which mixes market values with accounting values; profit efficiency7, which is superior to cost efficiency for evaluating the performance of managers; current profitability8; earning per share, PE9

Firm performace may also affect the price to book ratio A study Damodaran (2002) provides evidence that the most important determinant of price to book value is return on equity Another study by Block (1995) also shows that there is a good linear between price to book value ratio and earning

to book value ratio According to Block (1995) earning to book ratio ( a proxy

of profitability) may influence to price to book ratio The result shows that price

to book ratio is earning to book ratio multiplied by price to earning ratio

15

Tran (2008) finds that firm performance has negative correlation with capital structure when debt to equity ratio is more than 1.812; firm performance has positive correlation with capital structure when debt to equity ratio is less than 1.812 Therefore, firms could use debts to improve firm performance when debt to equity is less than 1.812

Titan & Zeitun (2007) find that firm size has a positively and significantly effect on firm‟s performance such as ROA, PROF and Tobin‟s Q

Pulak Mishra et al (2010) apply panel data estimation techniques for a set

of 52 listed drugs and pharmaceutical companies in India over the period from 2000-01 to 2007-08 to investigate the relationship between mergers, acquisitions (MA) and firms‟ performance The results of this study show that the profitability of a firm depends directly on its size, selling effort and export and import intensity but inversely on its market share and demand for the product; MA has insignificant impact on profitability of a firm in long run; in-house R&D and foreign technology purchase also do not have any significant impact on profitability of a firm

Abdel Shahid (2003) uses regression analysis for a sample of 90 most actively listed companies on Cairo & Alexandria Stock Exchanges (CASE) as

of end of 2000 to explore the effect of ownership structure on firm value The results of this study indicate that the dispersed ownership percentage influences certain dimensions of accounting performance indicators (i.e ROA and ROE) but not stock market performance indicators (i.e P/E and P/BV ratios)

16

Harold Demsetz, Kenneth Lehn (1985) use a sample of 511 firms from major sectors of the U.S economy, including regulated utilities and financial institutions and a sub sample of 406 manufacturing and mining firms during the period 1976-80 This study uses ordinary least squares (OLS) regression estimates to investigate causes and effects of the structure of corporate ownership The results of this study find that the structure of corporate ownership varies systematically in ways that are consistent with value maximization, which contrast with Berle-Means thesis, as no significant relationship is found between ownership concentration and accounting profit rates

Gorton & Rosen (1995) use quarterly observations of commercial banks from the second quarter of 1985 until the first quarter of 1990 to find that swaps are very profitable for dealer banks which may mitigate the incentives for large banks with entrenched managements to take on risk

Mehran (1995) uses 153 randomly-selected manufacturing firms in 1979–

1980 to examine the executive compensation structure, ownership, and firm performance The results show that firm performance is positively related to the percentage of equity held by managers and to the percentage of their compensation that is equity-based

3.2 DATA

This study exploits the accounting and market data of 70 listed companies in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange in the year 2009 and the year 2010 The data set is collected from financial statements on the websites:

http://cafef.vn/thi-truong-chung-khoan.chn and http://finance.vinabull.com/

The author collected accounting data from annual audited balance sheets and annual audited income statements of 70 listed firms Market price to book value ratio calculated at the end of 2009 and 2010 Beta calculated by using excel based on the database of daily closed price of Amibroker sofware

However, the problem is that the database has not enough daily data of stock price Therefore the author collected beta from website cafef because calculation method of this website for beta based on the CAPM model (http://cafef.vn/help/hesobeta.aspx)

3.3 RESEARCH METHOD

18

This study uses quatitative research method based on ordinary least square regression model and quantile analysis to estimate the relationship between firm‟s performance and growth opportunity, which is measured by market to

book ratio

3.4 RESEARCH SAMPLE

Saving time and money is the main cause of the sample used to answer research questions on the population This study focuses on all non-financial firms If removing the financial sector, three sectors which have large proportion on the market are consumer goods, basic merials, industrials According to simple random sample, each element of the population has an equal probability of being selected to the sample Assuming that market (population) includes only three sectors: Consumer goods, basic merials, industrials, the sample consists of three elements (food, metal, transportation) Based on collection criteria that the company has good performance during the period 2009 and the period 2010, the author chooses firms with good performance in each of three industries

At the beginning of 673 observations including 289 firms in Ho Chi Minh Stock Exchange (HOSE) and 384 firms in Ha Noi Stock Exchange (HNX), the author excludes all firms in financial sector including industries: real estate, nonlife insurance, general financial, banks, life insurance The author chooses three sectors: basic materials, consumer goods and industrials because of a large number of companies in three sectors besides financial sector In each sector, the author chooses one industry: food producers in consumer goods,

19

transportation in industrials, industrial metals in basic materials because firms in these industries account for a large proportion in each sector Then, the author excludes firms with bad business or lack of data in each collected industry from total 102 companies in three industries Accordingly, the final data set includes

70 listed companies in HOSE and HNX in the period 2009 and the period 2010 Two main items in financial statement collected on websites are balance sheet and income statement in the year 2009 and the year 2010 Other items are market value relative to companies in data set

From 2009 to 2010, many firms apply for listing on HCM stock exchange and

HN stock exchange As a number of listed companies change over the years, the author apply simple random sample According to simple random sample, each element of the population has an equal probability of being selected to the sample This study focuses on all non-financial firms If removing the financial sector, three sectors which have large proportion on the market are consumer goods, basic materials, industrials The author focuses on the large proportion

on the market which includes consumer goods, basic merials, industrials Therefore, the sample consists of three elements: food, metal, transportation which are three industries in three sectors respectively The author keeps choosing 70 listed firms within three industries from total 102 companies in those because of good performance during 2009 and 2010

3.5 VARIABLES MEASUREMENT FOR MODEL

20

investors in Vietnam Stock market and is used to represent firm performance

by previous studies In this research , the author uses return on equity (ROE) and earning to book (EB) for firm performance to test robustness between EB and ROE, to test whether EB is a proxy for firm performance in Vietnam based

on compatibility with the results of ROE

Firm‟s performance is proxied by earning to book value, which is measure by dividing eaning per share by book value per share, return on equity, which is calculated by dividing net income by total equity Its symbol is EB (ROE) These measures were used by Block (1995), Damodaran (2002)

3.5.2 Independent Variables:

Growth opportunity is proxied by market to book ratio, which is defined

by dividing market price per share by book value per share This measure was used by Gordon (1962), Damodaran (2002), Fairfield (1994), Harris and Marston (1994), Long and Zhao (2004) Its symbol is PB

People know growth opportunity as that any opportunity makes the value

of assets, income (or profit) of firms increase In statistics, the ratio used to measure the growth rate In the study of the impacts of the factors on the capital structure of listed companies on the stock market of Vietnam, Tran (2008) determined growth opportunities as that growth opportunities often measured by Tobin's Q ratio (the ratio of market value to book value of total assets) However, Tran used the growth rate of total assets due to limited data in this study In Tran‟s opinion, companies with growth prospects in the future rely on equity financing This opinion based on many previous studies such as Myers

21

(1977): ”Firms with high future growth opportunities should use more equity financing, or Vidhan K Goyal et al (2001): ”Firms with good growth opportunities are expected to have little debt, and a high proportion of their debt

is expected to be short-term rather than long-term, private instead of public, and senior (e.g., secured debt) instead of junior”, or Myers (1984): ”With high financial leverage firms, the shareholders of the companies tend not to invest in projects of the company as profit from this investment will benefit to creditors rather than to shareholders”

In the study the relationship between price to book value ratio and firm performance, the author uses the PBV, the ratio of market price to book value of equity instead of Tobin's Q, the ratio of market value to book value of total assets as a proxy for growth opportunity to reflect the expectations of investors

in the potential growth of the company The difference with Tran‟s research when he uses the accounting measure as a proxy for growth opportunity is that the authors uses the market factor of PBV, market price to book value of equity

as a proxy for growth opportunity It is said that: "if the market in bull situation,

PB does not express the real situation of the firm", then the question is “has Vietnam stock market truly been transparent? Firstly, using PBV as a market factor to evaluate the growth opportunities of the company could be correct only

if the information transparency of the market were high Otherwise, the mismatch of the PBV and ROE will happen and the stock is undervalued or overvalued stock Assuming that the transparency of the Vietnam stock market

is high, the increase in PBV implies the investor „s assessment that the return

on equity of the company exceeds cost of equity, so market price exceeds book value of equity and expectations of the growth opportunities of the company will be very high Secondly, the cashflow of investment is the smart money that

22

will flow into companies with high growth opportunities and causes PBV to increase In a bull market situation, lack of transparency of information and the herd mentality of investors causes stocks to be overvalued or to have high PBV Only using the accounting factors in the evaluation of the firm growth opportunity may be incorrect because of bias in accounting Therefore, the model can be expressed as follows: A company with high future growth opportunities, keeping low target leverage ratio, and majority of assets financed

by equity is more likely to have a good firm performance Therefore, PBV shows the review of the market or investors about the future growth of a company and the accuracy of PBV depends on the transparency of the market The research findings show that PBV ratio has positive correlation with firm performance are acceptable in term of academic activities However, in practice, the mismatch between PBV and ROE brings an investment opportunity The author uses market price to book value ratio as a proxy for growth opportunity based on previous studies such as Block (1995), Long and Zhao (2004) However, using PBV ratio as a proxy for growth opportunity is still largely controversial, the author expects following researches would clarify this topic

Firm size was defined by natural logarithm of sales This measure was used by many researchers (e.g., Mudambi and Nicosia, 1998, Lauterbach and Vaninsky, 1999, Durand and Coeuderoy, 2001, Tzelepis and Skuras, 2004) In this study, firm size is computed as the logarithm of net sales according to Rajan and Zingales (1995)

As Rajan and Zingales (1995, p 1427) state: “Clearly, the extent of leverage – and the most relevant measure – depends on the objective of the

23

analysis” In this study, the author uses proxies for leverage ratios including long-term debt to total assets (LTDTA), long-term debt to total equity (LTDTE), total debt to total equity (TDTE) Dividing leverage ratios into a variety of proxies provides different charateristics among industries For example, in the case of comparision between metal industry and transportation industry, although transportation is less than metal in total debt to total equity (TDTE), but transportation is higher than metal in long-term debt to total assets (LTDTA) and long-term debt to total equity (LTDTE) This implies that transportation industry is characterized by using long-term debt to finance long-term assets (or fixed assets) In this study, total debt to total equity ( TDTE) is essential because it represents the target leverage ratio according to

Xu et al (2005) that firm performance has strong and positive correlation with debt to equity ( debt ratio); when the debt ratio is between 24.52% and 51.13%, the firm performance is in quadratic relation and cubic relation to debt ratio, which is an important concept of the MM theory and the tradeoff theory Therefore, this study uses three measures to represent firm leverage: Long-term debt to total equity (LTDTE), long-term debt to total assets (LTDTA), total debt

to total equity (TDTE)

Risk is represented by beta, which is collected on website

http://cafef.vn/thi-truong-chung-khoan.chn This measure was used by Damodaran (2002), Harris and Marston (1994) Its symbol is BETA

Dummy variables include food and Trans used to test an influence to dependent variables EB, ROE

24

Table 4: Summary of Variables for model

Summary

1 Firm performance ROE, EB Block (1995), Damodaran (2002)

2 Growth opportunity PB Gordon(1962), Damodaran (2002),

Fairfield(1994), Harris and Marston (1994), Long and Zhao (2004)

et al (1999), Durand et al (2001), Skuras et al (2004), Rajan and Zingales (1995)

LTDTE, TDTE

Rajan and Zingales (1995)

Harris and Marston (1994)

6 Dummy variables Food,

Trans

3.6 HYPOTHESIS AND EMPIRICAL MODEL

Earning to book ratio is the accounting measure for firm‟s performance

A study by Block (1995) proved that market to book ratio has good correlation with earning to book ratio On the other hand, this study suggests that market to book ratio is a proxy of growth opportunity Xu et al (2005) argue that growth opportunity has strong relation to firm‟s performance, which is measured by

25

return on equity (ROE) According to tradeoff theory, firms with high growth opportunities tend to reduce target ratios to maximize their firm‟s performance Myer et al (1984) demonstrate that shareholders tend to favor high growth companies and they are willing to finance firms‟ profitable projects Meanwhile, firms may take advantages of lower external financing cost to issue more equities, borrow less to reduce target ratio as well as to maximize profit Fairfield (1994) also finds that price to book is related to return on equity Thus, market to book ratio could have strong role of growth opportunity in firm‟s performance because its fluctuation influences to behaviour of leverage adjustment to maximize profit Therefore, hypothesis 1 can be suggested as follows:

H1: Market to book ratio has positive influence to firm‟s performance

As mentioned in background research, this study based on MM theory and tradeoff theory explains that firms with high growth opportunity (proxied

by market to book ratio) incline to downwardly adjust their taget ratios to improve firm‟s performance As mentioned in descriptive statistic, leverage ratios are skew to right This implies that firms do not favour debts in long term Instead, they just desire short term debt to maintain operating business according to Tran (2008) With anti inflation policies of government and high interest rate from banks at present, firm‟s performance is negatively influenced

by borrowing debts from banks In Vietnam, most of companies strongly rely on debts from banks In short, leverage ratio has negative correlation with firm‟s performance Thus, we expect hypothesis 2 as follows:

H2: Leverage ratios are negatively relative to firms‟ performance

26

Titan & Zeitun (2007) find that firm size has a positively and significantly effect on firm‟s performance such as ROA, PROF and Tobin‟s Q Accordingly, hypothesis 3 can be stated as follows:

H3: Firm size has positive influence to firm‟s performance

Food and Trans are defined as dummy varibles for food producers and industrial transportation, remaining observations belong to industrial metals This study focus on three industries to examine whether they influence to market to book ratio and firm‟s performance Previous studies show that different industries have different firm performance and no theory defines relationship between industries and quantities such as market to book and firm‟s performance In this study, the author expects industry variables has an infuence

to firm performance

The basic ordinary least square regression model is applied to test the hypotheses that market to book ratio has an influence to firm‟s performance The emperical model can be estimated as follows:

Model 1: yi = β0 + β1 Growthi + β2 Leveragei + β3 SIZEi + β4 Food + β5 Trans + ui

Where i refers to the individual companies, and y is the dependent variable, which is represented by earning to book ratio, return on equity for firm i The independent variables are proxied by growth (ln(PB)), leverage ratio (total debt

to total assets (TDTE); long-term debt to total assets (LTDTA), long-term debt

to total equity (LTDTE)), firm size (SIZE) and dumy variables (Food and Trans)

27

Based on the hypotheses, the firm‟s performance model is described as follows:

 Dependent variable: Firm‟s performance is measured by earning to book ratio (EB), return on equity (ROE)

 Independent variable: Growth opportunity (ln(PB)), firm leverage (TDTE, LTDTE, LTDTA), firm size (SIZE)

 Dummy variable: Food, Trans

Damodaran (2002) provides evidence that the most important determinant

of price to book value is return on equity Based on this finding, the author suggests that firm performance could have an effect on market to book Therefore, the empirical model as bellows, which is supporting part in this study, test whether firm performance in 2009 have an impact on market to book

in 2010 or market to book in 2010 is predicted by firm performance in 2009 Thus, hypothesis 4 can be stated as follows:

H4: Firm performance in 2009 has positive influence to growth opportunity (ln(Pb)) in 2010

Costly external financing theory demonstrates that high market to book ratio firms can use more retained earnings by issuing highly valued equities according to the market timing hypothesis10 In this case, cost of equity is relatively cheaper than cost of debt For firms with low market to book ratios, they do not have much retained earnings and follow the pecking order theory11

by using more debt especially when debt is cheaper Damodaran (2002) also shows that market to book ratio is negatively related to risk (beta) For a stable firm, market price will exceed book value of equity if return on equity exceeds

28

cost of equity Harris and Marston (1994) find that risk is positively related to book to market and thus negatively related to price to book Therefore, increasing market to book is consistent with decreasing cost of equity or marginal return on equity is higher than marginal cost of equity Thus, hypothesis 2 can be stated as follows:

H5: Beta has negative influence to market to book ratio

The basic ordinary least square regression model is applied to test the hypotheses that firm‟s performance has an influence to market to book ratio The emperical model can be estimated as follows:

Model 2: yit = β0 + β1 Performancei(t-1) + β2 BETAit + β3 Food+ β2Trans + ui

Where i refers to the individual companies, t refers to the period 2010 and y is the dependent variable, which is represented by natural logarithm of market to book ratio for firm i The independent variables are proxied by performance (return on equity (ROE), earning to book (EB)), risk (BETA), dummy variables (Food and Trans)

Based on the hypotheses, the market to book model is described as follows:

 Dependent variable: Growth opportunity is measured by natural logarithm of market to book ratio ln(PB)

 Independent variable: Return on equity (ROE), Earnings to book (EB), Risk (BETA)

 Dummy variable: Food, Trans

29

3.7 SUMMARY

This study is conducted by quantitative research method based on ordinary least square regression and quantile analysis Sample size is 70 observations All samples are companies listed in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange This study uses market to book ratio (PB) to measure growth opportunity and earning to book value (EB), return on equity (ROE) to measure firm‟s performance In addition, other variables such as risk (Beta), firm leverage (LTDTA, LTDTE, TDTE), firm size (SIZE), dummy variables (Food, Trans) are used to explain dependent variables This chapter also focus on hypothesis and emperical model for firm performance The supporting model is used to test whether firm performance in 2009 have an impact on market to book in 2010 according to evidence by a study of Damodaran (2002)

Stock Exchange

4.2 CHARACTERISTICS OF RESEARCH SAMPLES

The research samples consist of 70 observations, which are listed companies in Ho Chi Minh Stock Exchange and Ha Noi Stock Exchange In 70 companies, there are 36 companies in Food Producers Industry; 23 companies

in Transportation Industry; 11 companies in Industrial Metals From figure 6 as bellows, the chart decribes that number of companies in Food producers are highest proportion with 51% in total samples; followed by Transportation with 33%; Industrial Metals with 16%

31

Figure 1: Distribution of Sectors

(Source: excel )

4.3 DESCRIPTIVE STATISTICS

Table 5: Summary of Statistics and Correlation of the Variables for Year 2009

EB ROE LN_PB_ LTDTA LTDTE TDTE SIZE BETA Mean 0.1914 0.1754 0.3580 0.1226 0.4468 1.6242 27.2443 0.9016 Median 0.1784 0.1649 0.3524 0.0384 0.1053 1.0874 27.1519 0.9400 Maximum 0.5118 0.5135 1.3732 0.7462 8.6317 10.5672 30.0466 1.2600 Minimum 0.0003 0.0003 -0.4570 0.0000 0.0000 0.0714 24.6054 0.2500 Std Dev 0.1138 0.1077 0.4197 0.1825 1.1811 1.8202 1.1397 0.1850 FOOD

Mean 0.1856 0.1727 0.3469 0.0679 0.1609 1.3139 27.3731 0.9000 Median 0.1764 0.1692 0.3210 0.0310 0.0538 0.9649 27.2676 0.9400 Max 0.3597 0.3579 1.3732 0.4154 1.4651 6.4618 30.0466 1.2600 Min 0.0109 0.0108 -0.4175 0.0000 0.0000 0.1191 25.4431 0.2500 Std Dev 0.0968 0.0924 0.4445 0.0899 0.2683 1.3188 1.0376 0.2023 TRANS

Mean 0.1682 0.1495 0.2646 0.2177 1.0105 1.6374 26.5240 0.8891 Median 0.1219 0.1219 0.1317 0.0943 0.1357 0.9315 26.4588 0.9400 Max 0.4908 0.4884 1.0082 0.7462 8.6317 10.5672 28.3196 1.1500 Min 0.0003 0.0003 -0.4570 0.0000 0.0000 0.0714 24.6054 0.5800 Std Dev 0.1326 0.1148 0.4051 0.2495 1.9254 2.2917 0.9398 0.1727 METAL

Mean 0.2584 0.2380 0.5897 0.1029 0.2041 2.6116 28.3291 0.9327 Median 0.2464 0.2385 0.5640 0.0222 0.1101 2.0250 28.5790 0.9800 Max 0.5118 0.5135 1.0140 0.5483 1.2366 7.4223 29.7454 1.1200 Min 0.0901 0.0901 0.1242 0.0000 0.0001 1.0420 26.9281 0.7100 Std Dev 0.1075 0.1237 0.2889 0.1804 0.3573 1.9495 0.8385 0.1604

a denotes statistical significance at the 10 percent level

b denotes statistical significance at the 5 percent level

c denotes statistical significance at the 0.5 percent level

(source: eview 6)

The earnings to book for all firms is 0.1914, maximum is 0.5118, minimum is 0.0003 The earnings to book for firms in metal industry is 0.2584, which is higher than the earnings to book of the other industries (Food 0.1856, Trans 0.1682)

The return on equity for all firms is 0.1754, maximum is 0.5135, minimum is 0.0003 The return on equity for firms in metal industry is 0.2380, which is higher than the return on equity of the other industries (Food 0.1727, Trans 0.1495)

The natural logarithm of market to book for all firms is 0.3580, maximum is 1.3732, minimum is - 0.4570 The natural logarithm of market to book for firms

in metal industry is 0.5897, which is higher than the natural logarithm of market

to book of the other industries (Food 0.3469, Trans 0.2646)

The long-term debt to total asset for all firms is 0.1226, maximum is 0.7462,

33

minimum is 0 The long-term debt to total asset for firms in transportation industry is 0.5897, which is higher than the long-term debt to total asset of the other industries (Food 0.0679, Metal 0.1029)

The long-term debt to total equity for all firms is 0.4468, maximum is 8.6317, minimum is 0 The long-term debt to total equity for firms in transportation industry is 1.0105, which is higher than the long-term debt to total equity of the other industries (Food 0.1609, Metal 0.2041)

The total debt to total equity for all firms is 1.6242, maximum is 10.5672, minimum is 0.0714 The total debt to total equity for firms in metal industry is 2.6116, which is higher than the total debt to total equity of the other industries (Food 1.3139, Trans 1.6374)

The size for all firms is 27.2443, maximum is 30.0466, minimum is 24.6054 The size for firms in metal industry is 28.3291, which is higher than the size of the other industries (Food 27.3731, Trans 26.5240)

The beta for all firms is 0.9016, maximum is 1.26, minimum is 0.25 The beta for firms in metal industry is 0.9327, which is higher than the beta of the other industries (Food 0.9, Trans 0.8891)

Table 6: Summary of Statistics and Correlation of the Variables for Year 2010

EB ROE LN_PB_ LTDTA LTDTE TDTE SIZE BETA Mean 0.2041 0.1817 0.1483 0.0925 0.2569 1.3465 27.5285 1.0419 Median 0.1939 0.1636 0.1964 0.0261 0.0530 1.0596 27.4170 1.0300 Maximum 0.4716 0.4701 1.3480 0.5705 2.6792 6.6216 30.4750 1.9100 Minimum 0.0333 0.0327 -0.8760 0.0000 0.0000 0.0458 24.7148 0.0600 Std Dev 0.1131 0.0955 0.4248 0.1400 0.4846 1.2450 1.2011 0.4782