Firms histories, managerial entrenchment and leverage ratio from vietnams listed firms

First, for the first time in Vietnam, the effect of corporate governance, managerial entrenchment, together with the market timing behavior on leverage ratio is considered.. Second, the

UNIVERSITY OF ECONOMICS ERAMUS UNIVERSITY ROTTERDAM

VIETNAM – NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

FIRMS’ HISTORIES, MANAGERIAL ENTRENCHMENT & LEVERAGE RATIO FROM VIETNAM’S LISTED FIRMS

BY

PHAM LE PHUONG LAN

MASTER OF ARTS IN DEVELOPMENT ECONOMICS

HO CHI MINH CITY, NOVEMBER 2016

UNIVERSITY OF ECONOMICS INSTITUTE OF SOCIAL STUDIES

VIETNAM – THE NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

FIRMS’ HISTORIES, MANAGERIAL ENTRENCHMENT & LEVERAGE RATIO FROM VIETNAM’S LISTED FIRMS

A thesis summited in partial fulfillment of the requirements for the degree of

MASTER OF ARTS IN DEVELOPMENT ECONOMICS

DECLARATION

I hereby declare that the content of this dissertation is developed, written and completed by myself The thesis has not been accepted for any degree and institution in my name Additionally, I certify that this work will not, in the future, be submitted in my name for any other diploma and university To my best knowledge and belief, my research has not been contained any previously published material, excepting for all carefully and clearly cited references

The thesis has not been finalized without the supervision and guidance of Dr Vo Hong Duc, Economic Regulation Authority, Western Australia and Open University, Ho Chi Minh City Any other support and encouragement has been profoundly acknowledged

Ho Chi Minh City, November 2016

Pham Le Phuong Lan

ACKNOWLEDGEMENT

I would first like to express my utmost gratitude for my supervisor, Dr Vo Hong Duc, for his brilliant guidance and his patience, tolerance, caring and understanding In addition, his burning motivation, inspiration, enthusiasm and his excellent insight and expertise, from the first lecture on Day one, have been a profound influence on me in every day He provides me with a valuable opportunity and a great honor to follow his wisdom supervision Without his persistent guidance and assistance, I could not been able to accomplish my thesis and also better myself

I would like to send my appreciation to the Vietnam Netherlands Programme, to all lecturers for their teaching method and to the staffs and my friends for their magnificent support Specially, I would like demonstrate my gratitude to Dr Truong Dang Thuy for sharing constructive comments and econometric technique that improve the manuscript

From the bottom of my heart, I am indebted to my parents and my brother for the unconditional love, endless support, and unlimited tolerance regardless of how imperfect I

am For my whole life, my caring father and my understanding mother are the ones who raise me up whenever I feel sorrow, teach me what is right from wrong and believe in what

I choose so that I can pursue my studying Simply, home is home – the place where I belong to

ABSTRACT

Corporate governance principles provide the framework for firms to achieve their objectives The framework is generally considered as the interactions between management, board, and shareholders Fundamental theories and findings from empirical studies primarily indicate that strong corporate governance successfully promotes a business success in relation to both management and finance by reducing agency conflict and achieving an optimal level of capital structure The effect of corporate governance on capital structure has been raised and investigated in various empirical studies for an extended period of time Within the corporate governance framework, the relationship between managerial entrenchment and leverage ratio has attracted great attention from academia, practitioners, and policy makers from developed world However, this important link has not been sufficiently considered and investigated in the context of developing nations, including Vietnam

Using a sample of 289 non-financial firms listed on Ho Chi Minh Stock Exchange during the period 2006-2015, this study is conducted to provide two major pieces of empirical evidence to fill the following gaps in current research of corporate governance in

the Vietnamese context First, for the first time in Vietnam, the effect of corporate

governance, managerial entrenchment, together with the market timing behavior on leverage ratio is considered In this study, managerial entrenchment is proxied by block-holder holdings, board size, director age, CEO-Chairman duality, board composition, and CEO age Also, market timing behavior is represented by firms’ histories on leverage ratio

which is measured by the ratio between book leverage and market leverage Second, the

impact of managerial entrenchment on firm’s leverage ratio is then classified into two distinct regimes, including a high entrenchment regime and a low entrenchment regime Furthermore, a two-stage approach is used in this study: (i) to determine the target leverage level; and (ii) to quantify the effects of managerial entrenchment and firms’ histories on the observed leverage level of listed firms in Vietnam Variety econometric techniques, along with the traditional Ordinary Least Squares (OLS) method, are incorporated such as the Generalized Method of Moments (GMM) and endogenous switching regression method

Key findings achieved from this study can be summarized as follows

First, empirical evidence indicates that there is a negative relationship between

managerial entrenchment and leverage ratio Findings from this study confirm the view that entrenched managers’ decision to reduce a leverage ratio by issuing equity is consistent with market timing behavior

Second, the results achieved from the study demonstrate that a negative effect of

firms’ histories including financial deficit and various timing measures together with stock price histories on leverage ratio of Vietnam’s listed firms is found over the research period

Third, the impact of high managerial entrenchment regime and low managerial

entrenchment regime and firms’ histories on book leverage ratio and market leverage ratio

is found in this study The results confirm that high-entrenched managers pay attention on the market timing and benefit from the equity market As a result, they reduce a leverage ratio utilized in their firms

Fourth, the results present that the high managerial entrenchment regime is in

relation to larger number of block-holders, larger boards, older CEOs with CEO-Chairman duality and more outside directors

Fifth, findings from this study also reveal empirical evidence to support the view

that the change of leverage ratio is a negative response to financial deficit, profitability, timing measures – yearly timing and long-term timing and an alternative timing measure – insider sales, and stock price returns Considerably, the downward adjustment of debt ratio results from the high managerial entrenchment effect

Sixth, high authority of entrenched managers to the board could be linked to weak

corporate governance in the Vietnamese context This observation is based on the reports

of International Finance Corporation and the State Securities Commission Vietnam (2006) and International Finance Corporation and the State Securities Commission Vietnam (2012)

Key words: Managerial entrenchment, Firms’ histories, Leverage ratio, GMM,

Endogenous switching regression model, HOSE

TABLE OF CONTENTS

DECLARATION ii

ACKNOWLEDGEMENT iii

ABSTRACT iv

TABLE OF CONTENTS vi

LIST OF TABLES x

LIST OF FIGURES xi

CHAPTER 1 INTRODUCTION 1

1.1 Problem statement 1

1.2 Research objectives 3

1.3 Research questions 3

1.4 Research scope 4

1.5 The thesis structure 4

CHAPTER 2 LITERATURE REVIEW 5

2.1 Literature review 5

2.1.1 Corporate governance framework 5

2.1.1.1 Corporate governance principles 5

2.1.1.2 Why does corporate governance matter for an organization? 5

2.1.2 The theoretical framework of corporate governance 6

2.1.2.1 Agency theory 6

2.1.2.2 Signaling theory 7

2.1.3 The capital structure theory 8

2.1.4 Managerial entrenchment and capital structure decisions theory 11

2.1.5 Market timing and capital structure theory 12

2.2 Empirical evidence 14

2.2.1 The influence of managerial entrenchment and leverage ratio 14

2.2.2 The impact of firms’ histories on leverage ratio 15

2.2.2.1 Financial deficit and Leverage ratio 15

2.2.2.2 Market timing and Leverage ratio 15

2.2.2.3 Stock price returns and Leverage ratio 26

2.3 Hypotheses 17

2.3.1 Managerial entrenchment and Leverage ratio 17

2.3.1.1 Block-holder holdings and Leverage ratio 17

2.3.1.2 Board size and Leverage ratio 18

2.3.1.3 Director age and Leverage ratio 18

2.3.1.4 CEO-Chairman duality and Leverage ratio 18

2.3.1.5 Board composition and Leverage ratio 19

2.3.1.6 CEO age and Leverage ratio 19

2.3.2 The relationship between firms’ histories and leverage ratio 20

2.3.2.1 Financial deficit and Leverage ratio 20

2.3.2.2 Market timing measures and Leverage ratio 20

2.3.2.3 Stock price returns and Leverage ratio 21

2.3.2.4 Profitability and Leverage ratio 21

2.3.2.5 Leverage deficit and Change in target leverage 22

2.4 Analytical framework 23

CHAPTER 3 RESEARCH METHODOLOGY AND DATA 24

3.1 Vietnam’s corporate governance and securities market framework 24

3.1.1 Vietnam’s corporate governance and institutional background 24

3.1.1.1 Vietnam’s adoption of corporate governance standards 24

3.1.1.2 Vietnam’s corporate governance framework 24

3.1.2 The background of Vietnam’s securities market 26

3.2 Data sources 28

3.3 Research methodology 28

3.3.1 The two-stage approach in determining leverage ratios 28

3.3.1.1 The target leverage ratio estimation 28

3.3.1.2 Model specification 30

3.3.1.3 Measurement of variables 31

3.3.2 The Generalized Method of Moments (GMM) 36

3.3.3 Endogenous switching regression method 39

3.3.3.1 The selection equation 39

3.3.3.2 The structural equations 39

CHAPTER 4 THE EMPIRICAL RESULTS 42

4.1 Data descriptions 42

4.1.1 Descriptive statistics 42

4.1.2 Correlation 46

4.2 The target leverage estimation 50

4.3 The influence of managerial entrenchment effect and firms’ histories on Vietnam firms’ leverage ratio 51

4.3.1 The choosing of time period (t-n) – lag order selection for the model specification 51

4.3.2 Multicollinearity, autocorrelation and heteroskedasticity test 52

4.3.3 Endogeneity test 53

4.3.4 Managerial entrenchment effect, firms’ histories and leverage ratio 54

4.4 The relationship of managerial entrenchment in both high and low

entrenchment regime and firms’ histories on Vietnam firms’ leverage ratio 60

CHAPTER 5 CONCLUSION AND POLICY IMPLICATIONS 66

5.1 Concluding remarks 66

5.2 Policy implications 69

5.2.1 Implications for Vietnam’s listed firms 69

5.2.2 Implications for Vietnam’s investors 71

5.2.3 Recommendations for the Government of Vietnam and relevant authorities 71 5.3 The limitation and further improvement 73

REFERENCES 74

LIST OF TABLES

Table 3.1 Measurement of variables 35

Table 4.1 Descriptive statistics 44

Table 4.2 Correlation among managerial entrenchment proxies 46

Table 4.3 Correlation among managerial entrenchment, firms’ histories and firms’ leverage ratio 47

Table 4.4 The target leverage ratio estimation 50

Table 4.5 Levin-Lin-Chu (2002) test 51

Table 4.6 The selection criteria 52

Table 4.7 Multicollinearity 52

Table 4.8 Autocorrelation 53

Table 4.9 Heteroskedasticity 53

Table 4.10 Endogeneity test 53

Table 4.11 The Generalized Method of Moments regression of leverage ratio with timing measures – yearly timing and long-term timing 58

Table 4.12 The Generalized Method of Moments regression of leverage ratio with timing measure – insider sales 59

Table 4.13 The endogenous switching regression of leverage ratio with timing measures – yearly timing and long-term timing 64

Table 4.14 The endogenous switching regression of leverage ratio with timing measure – insider sales 65

LIST OF FIGURES

Figure 2.1 Determination of the optimal ratio of outside equity to debt 9

Figure 2.2 Analytical framework 23

Figure 4.1 Managerial entrenchment effect 49

Figure 4.2 Firm characteristics 49

Figure 4.3 Market timing effect 49

al 2005; G20/OECD principles of corporate governance 2015)

The effect of corporate governance on capital structure has been raised and investigated in various empirical studies for an extended period of time Within the corporate governance framework, the relationship between managerial entrenchment and leverage ratio has attracted great attention from academia, practitioners, and policy makers According to Berger, Ofek and Yermack (1997), managerial entrenchment occurs when managers, fail to experience the corporate governance disciplines, are able to manipulate financing decisions to support their own interests rather than those of shareholders On one hand, it is believed that managerial entrenchment is related to an increase in leverage In their seminal paper, Jensen and Meckling (1976) considered that entrenched managers do not always use the value-maximizing level of debt to implement capital structure Those managers may increase debt ratios beyond the optimal level to prevent them from takeover risks, to strengthen their longevity with their firms, and to pass anti-takeover laws (Harris and Raviv 1988; Stulz 1988; Wald and Long 2007) Similarly, Qi and Wald (2008) present that the stronger anti-takeover efforts are linked to the more increase in leverage ratio On the other hand, it is expected that managerial entrenchment is in associated with less leverage level Welch (2004) shows that after obtaining benefits from large stock returns, entrenched managers are willing to issue equity rather than debt, contributing to a decrease

in debt ratio Moreover, John et al (2008) find that for fear of a severe financial distress, managers tend to avoid debt by pursuing conservative investment choices

Nevertheless, the relationship between managerial entrenchment and market timing behavior on leverage ratio has not much been investigated The market timing activity is considerably explained by managers’ financing decisions through which companies choose

to raise debt or equity to finance their investment opportunities Thus, the managerial entrenchment and the market timing behavior should be simultaneously examined in this study

As mentioned, entrenched managers are seemingly to narrow down debt level and are willing to carry out responsible investment decisions due to bankruptcy Since bankruptcy resulting from an increase in debt ratio helps those managers get rid of takeover threats effectively (Zwiebel 1996) Unfortunately, avoiding debt probably limits firms from accessing one of the low cost funds stemming from tax-shield benefits Instead, when it comes to meeting external financing demands, entrenched managers are likely to issue substantial amounts of equity when the equity market is perceived to be more favorable (Graham and Harvey 2001) This is consistent to the market timing theory that capital structure is the cumulative outcome of past attempts to time the equity market (Baker and Wurgler 2002) Specifically, Kayhan and Titman (2007) find that the past attempts – firms’ histories such as financial deficits, timing measures and stock price returns significantly reflect the market timing behavior, contributing to crucial roles in determining a firm’s leverage ratio

In Vietnam, few studies have examined the influence of managerial entrenchment and the market timing effect via firms’ histories on choosing a firm’s leverage ratio Also, there are in lack of empirical evidences analyzing the market timing effect on leverage ratio although many studies applied the trade-off theory and the pecking order theory, for example, Vo and Tran (2015) Since the Vietnam’s securities market has just been reaching an early stage of development, information asymmetry and agency problem may lead to a drawback for firms on estimating stock prices and deciding an optimal leverage level Nguyen (2015) found that the market timing has the short-term and long-term effects

on a determination of the leverage level for the Vietnamese IPO firms Although the paper indicated that a sector’s value deviation along with past stock prices is an important factor explaining for issuing equity and timing the market, managerial entrenchment and firms’ histories have been ignored in this study Hence, this paper is conducted to provide empirical evidence on the above issues which are still missing from previous studies in the Vietnamese context

1.2 Research objectives

The study is conducted to investigate the impact of managerial entrenchment and the market timing effect through the firm’s histories on leverage ratio The four main objectives are presented as follows:

(i) Analyzing the determinants of managerial entrenchment together with firms’ characteristics that influence leverage ratio of Vietnam firms

(ii) Evaluating the target leverage ratio of Vietnam firms

(iii) Estimating the effect of managerial entrenchment and the market timing presented through firms’ characteristics on leverage ratio

(iv) Examining the relationship of managerial entrenchment in both high and low entrenchment regime and firm’s histories on leverage ratio in Vietnam firms This study is different from other previous studies on the following grounds:

 First, for the first time in Vietnam, managerial entrenchment together with

the market timing effect represented by firms’ histories on leverage ratio for all listed firms in Ho Chi Minh Stock Exchange is considered

 Second, the effect of managerial entrenchment on firm’s leverage ratio is

classified as high entrenchment regime and low entrenchment regime

 Third, various measurements of firms’ characteristics is incorporated

including (i) financial deficits, (ii) leverage deficits, (iv) timing measure, and (v) stock price returns and so on Especially, insider sales can be used

as an alternative proxy for timing measure

 Fourth, various econometric techniques including the Ordinary Least

Squares (OLS), the Generalized Method of Moments (GMM) and endogenous switching regression method are employed in this study

(iii) How do managerial entrenchment and the market timing effect presented through firms’ histories affect leverage ratio in Vietnam firms?

(iv) How do managerial entrenchment in both high and low entrenchment regime and firm’s histories affect leverage ratio in Vietnam firms?

1.4 Research scope

This study uses a dataset of 289 non-financial firms collected from Ho Chi Minh Stock Exchange (HOSE) during the period of 2006 to 2015 The secondary dataset is extracted from several sources such as annual reports, financial statements, and available firms’ information on websites – cafef.vn, cp68.vn, and vietstock.vn All financial firms are eliminated from the sample for a reason that banks, insurances and investment funds possess a different capital structures compared to those of firms in non-financial sector

1.5 The thesis structure

This thesis comprises five chapters The main content of each chapter is organized

as follows:

 Chapter 1 introduces an overview of the thesis containing the problem

statement, the research objectives, questions, and the research scope

 Chapter 2 begins with the existing theories and the empirical evidence

focusing on agency conflicts, managerial entrenchment, market timing and firms’ characteristics Later, the chapter identifies the research hypotheses and the conceptual framework of the influences to firms’ leverage ratio

 Chapter 3 describes the methodology including the data measurements and

quantitative models employed in the thesis Additionally, econometric technique used to achieve the research objectives will be elaborated

 Chapter 4 expresses the empirical results In particular, main findings are

revealed and compared to other empirical evidences

 Chapter 5 provides the key findings and the discussions The implications

are delivered to shed light on the policy purposes Finally, the chapter indicates the limitations for future improvements

CHAPTER 2

LITERATURE REVIEW

In this section, Chapter 2 begins with corporate governance framework, the background of Vietnam securities market, the existing theoretical framework of corporate governance and capital structure, and the empirical evidence of managerial entrenchment behavior and market timing effect through firms’ characteristics on leverage ratio Later, the chapter identifies the research hypotheses and the conceptual framework of these influences to firms’ leverage ratio

2.1 Literature review

2.1.1 Corporate governance framework

2.1.1.1 Corporate governance principles

Corporate governance principles provide the framework for companies to achieve their objectives, and help those enterprises to shape instruments to maintain their objectives and to control the firms’ performance The framework is generally associated with interactions between management, board, and shareholders Strong corporate governance is primarily believed to successfully promote a success of firms in relation to both management and finance by reducing agency conflict and achieving an optimal level

of capital structure Consequently, the principles support policy makers with effective instruments to sustain economic growth efficiency and financial stability (Jensen 1986; Klock et al 2005; G20/OECD principles of corporate governance 2015)

The corporate governance principles do not provide the “perfect” role model for all countries to follow Rather, the principles synthesize some common elements that are existed from different corporate structures Furthermore, a variety of objectives and means

to achieve a suitable corporate governance structure is provided In this way, based on an appropriate and flexible orientation, the managements are freely to set up their own corporate governance frameworks in response to their shareholders and debtholders’ expectations (G20/OECD principles of corporate governance 2015)

2.1.1.2 Why does corporate governance matter for an organization?

Hart (1995) believes that corporate governance problems result from two circumstances The first one is known as the agency relationship which is the conflict

interest between the owners and the managements of the organization The second factor comes from agency cost which is the result of agency conflict and is not narrowed by signing an agreement

The corporate governance principles are constructed to moderate these above issues Thanks to the globalization, the conflict interests of the owners and the managements will be mitigated by welcoming and gaining substantial benefits from global capital markets When companies build up a robust relation to international capital flows such those from high-developed countries, corporate governance agreements will be widely accepted and will fit in with international principles With the aid of implementing effective supervision and mechanisms, the confidence of shareholders and debtholders will

be earned and the cost of capital will be declined, significantly improving wealth of the owners and the managements Definitely, this leads to a win-win relationship for the both parties (G20/OECD principles of corporate governance 2015)

2.1.2 The theoretical framework of corporate governance

2.1.2.1 Agency Theory

In their seminal paper, Jensen and Meckling (1976) develop the agency theory that indicates the agency relationship between the owners and the top management of the firm mainly results from the separation of ownership and control The shareholders and debtholders are represented for the principals while top managers are viewed as the agent The agency relationship is defined as an agreement of the principals and the agent The agent is the representative of the principals to execute some decision making authority which maximizes the owners’ wealth As a matter of fact, the best interests of the principals should not always be achieved by the agent owing to the utility maximizing relationship

In attempts to protect their interests from divergences, the principals restrain the abnormal behaviors of the agent by promoting incentives First, the encouragement is designed to increase the managerial ownership Due to the rise of managerial ownership, managers are forced to take full responsibilities for trading off shareholders’ wealth to pursue their own interests Nonetheless, once holding such the considerable power, managers are likely rescued from being replaced and punished by the principals, causing managerial entrenchment Entrenched managers have a tendency to utilize their privileges

to manipulate firms’ investment opportunities to preserve their well-beings (Morck, Shleifer and Vishny 1988)

Additionally, the stimulation is existed in the form of an escalation in leverage or debt creation (Grossman and Hart 1982; Jensen 1986) Debt financing seems to be a powerful “penalty” in mitigating managers’ building empire desires (Hart 1995) For fear

of posing bankruptcy threats from debt financing, managers are motivated not only to operate firms’ cash flows efficiently but also to supervise investment projects carefully, generating cash flows in order to pay out future interest and principle disbursements

2.1.2.2 Signaling Theory

According to signaling theory, not merely the agency relationship comes from interest conflicts among the owners and the managements, but also results from the asymmetric information between the insiders and the outsiders The insiders represent the top managers whereas the outsiders signify the shareholders and debtholders Managers are supposed to obtain more information about firms’ investment opportunities than outsiders (Ross 1977) To collect symmetric information, outsiders try their best to get the information they need from a variety of sources In truth, the permission to access to the real value of firm’s present and future investment is limited and the reliability of information is in need of verification In this way, shareholders and debtholders are likely subject to any financing change made by insiders A modification of capital structure is in relation to an alteration of the firm’s performance When debt level is determined to be boosted up, outsiders receive a signal from the firm that the promise of high future cash flow is expected (Ross 1977) On the contrary, since firm’s investment is financed with new equity issuing, outsiders will perceive the firm’s performance to be declined and share the losses with newcomers Hence, outsiders attribute the complete confidence of managers in the future firm’s performance to the surge in leverage

2.1.3 The capital structure theory

In their well-known study of corporate governance, Jensen and Meckling (1976) highlight that the capital structure theory is rather known as the theory of ownership structure As a matter of fact, the vital capital structure proxies are not simply the accumulations of debt and equity but also the amounts of the equity of the manager Therefore, three determinants of the capital structure is incorporated to illustrate the theory for a given size firm

The total market value of the equity is calculated as:

𝑆 = 𝑆𝑖+ 𝑆0The total market value of the firm is measured by:

𝑉 = 𝑆 + 𝐵

where:

 Si: inside equity (held by the manager),

 S0: outside equity (held by outside investors of the firm),

 B: debt (held by outside investors of the firm)

The theory is developed to determine the optimal ratio of outside equity to debt (Jensen and Meckling 1976)

The determination of the optimal ratio of outside equity to debt is

S0⁄ The size of the firm is assumed to be constant V presents for the actual value of the Bfirm and depends on the agency costs Therefore, V∗ refers to the value of the firm at a given scale when agency costs are zero The amount of outside financing (B + S0) is held constant The optimal fraction of outside financing obtained from equity

E∗ is determined by E∗≡ S∗⁄(B + S0)

Figure 2.1 Determination of the optimal ratio of outside equity to debt Total agency costs, A T (E), is

a function of the amount of outside equity Total outside financing is E ≡ S0⁄ (B + S0) , for a given firm size V∗ and given total amounts of outside financing(B + S 0 ) The agency costs linked to outside equity is AS0(E) The agency costs related to debt is AB(E) The minimum total agency costs is AT(E ∗ ) which is at optimal fraction of outside financing E ∗

Source: Jensen and Meckling (1976)

Figure 2.1 describes two separate factors of the agency costs including: (i) the total

agency costs (a function of E) related to the amounts of equity held by the owner-manager

is AS0(E); (ii) the total agency costs linked to the amounts of debt is AB(E) The total agency cost is

AT(E) = AS0(E) + AB(E) The agency costs related to the amounts of equity held by the owner-manager is

AS0(E) Since E∗ ≡ S∗⁄(B + S0) is equal to zero, it means that there is an absence of outside equity When the differences in the total equity equal to an increase in the equity held by the outside equity investors, the manager is attracted to exploit the outside equity at

a minimum (zero), leading to a rising of the agency costs AS0(E)

The agency costs related to the amounts of debt is AB(E) The agency costs is comprised of the decreases in value of the firm and monitoring costs associated with the reallocation of wealth from bondholders to the manager by stimulating the manager’s equity value When all outside funds are financed by debt rather than equity S0 = E = 0, the agency costs is maximized On the contrary, as all outside funds are gained from equity

E = 1, this agency costs is at a minimum due to an incline to zero of debt The manager’s motivations of reallocating wealth from bondholders are declined owing to some following reasons: (i) because the level of debt goes to zero, there is no amount of debt to reallocate wealth from the debtholders to the manager; (ii) when the amount of equity S0 increases, the manager’s total equity substantially decreases since E ≡ Si⁄(S0+ Si)

The sum of the agency costs by adding outside equity and debt financing is displayed by the curve AT(E) Given that the total agency costs at a minimum value for given size firm are AS0(E) and AB(E), outside financing obtained by equity AT(E∗) is at certain point which is a combination of debt and equity level

2.1.4 Managerial entrenchment and capital structure decisions theory

Motivated by Jensen and Meckling (1976), many researchers have adopted agency theory to answer the question of whether managers frequently maximize the level of debt

in making capital structure decisions to reduce agency costs Based on the well-known study of Grossman and Hart (1982), Berger, Ofek and Yermack (1997) come up with the managerial entrenchment and capital structure decisions theory to predict efficiency forecasts about a firm’s financing decisions contending with an agency problem Furthermore, the theory sticks on shedding light on whether and how entrenchment factors related to the leverage choice of managers Previous literature review on the influence of agency conflicts on management’s financing decisions puts emphasis on the superior role

of debt in mitigating the agency relationship between managers and shareholders However, the determination of leverage in association with agency problems is left aside The agency problems are known as the interest conflicts over the power of making financing decisions between managers and owners As a matter of fact, the conflicts of interests result from such elements that managers prefer firm risk to be diminished owing

to their under-diversification in investment choices (Fama 1980; Amihud and Lev 1981); for the pressure of maintaining firm performance and paying out large fixed interest payments, managers suffer from being replaced (Jensen 1986); managers keep on holding their position as long as possible for fear of being removed by better qualified applicants (Harris and Raviv 1988; Stulz 1988)

To claim the prediction of firm value efficiency on firms’ financing decisions under agency conflicts, models are constructed to point out the explanation The implementing of these models is first motivated with the managers’ desire for maximizing the value of firm

In this way, managers are forced to decide the level of debt that maximizes the firm value

by means of some disciplinary instrument As opposed, Novaes and Zingales (1995) indicate that the proficient debt choice has nothing in common with the entrenchment choice Shareholders are the agent who is beneficial to the efficient debt choice while managers manipulate the debt choice to maximize their entrenchment or to retain their terms in office Also, the disciplinary mechanism is influenced by the managerial entrenchment When the punishment mechanism is tightened, managers arrive at a reduction in debt level to deal with great takeover pressure In contrast, if managers are not affected by the disciplinary instrument, they quickly increase debt financing to a high level

to “deactivate” takeover pressure Furthermore, Harris and Raviv (1988), Stulz (1988), and

Jung, Kim, and Stulz (1996) point out a number of evidence for the influence of managerial entrenchment on firms’ leverage decisions Harris and Raviv (1988), and Stulz (1988) argue that entrenched managers move debt level beyond the target level so as to control their voting rights and hinder them from takeover threats On the contrary to the study of Harris and Raviv (1988), Jung, Kim, and Stulz (1996) find that debt financing is not put a high priority on raising funds for firms’ investment Instead, the poorer investment opportunities these firms have, the more portion of equity is issued Their study also shows that the investment capacity of firms issuing equity is larger than that of firms financing debt As a result, Jung, Kim, and Stulz (1996) conclude that due to severe agency costs, entrenched managers considerably issue equity regardless of how better outcomes for firm value would be when issuing debt

Theoretical arguments and some empirical evidence suggest that managers are seemingly to be entrenched to protect themselves from intrinsic and extrinsic corporate governance control instrument such as supervising by the board, being subject to takeover threat, or receiving stock-based performance motivation Therefore, the leverage choice may be taken into account as a key for these entrenched managers to pursue their own interests and maximize their tenure

2.1.5 Market timing and capital structure theory

Financing decision, the determining factor of capital structure is substantially considered as one of the most debated dispute in corporate finance for several decades The decision is in association with whether companies decide to raise debt or equity to finance their investment opportunities Many researchers have established numerous theoretical analyses concentrated on the vital contribution of debt mixed with equity such as the trade-off theory (Modigliani and Miller 1963; Fama and Miller 1972; Jensen and Meckling 1976; Myers 1977; Miller and Scholes 1978; DeAngelo and Masulis 1980; Easterbrook 1984; Jensen 1986) and the pecking order theory (Myers 1984; Myers and Majluf 1984) However, these traditional theories have not practically elaborated the capital structure choice As a result, the theory of capital structure is naturally explained with the help of market timing theory (Baker and Wurgler 2002) This is because the market timing theory emphasizes on the raising of funds with equity as stock price increases and with debt when stock price falls In this way, Baker and Wurgler (2002) believe that capital structure is defined as the cumulative outcome of past attempts to time the equity market

It is important to know that two different versions of equity market timing both result in capital structure dynamics In the first market timing version, Myers and Majluf (1984) develop a dynamic type based on rational managers and investors and adverse selection costs fluctuating among different firms or time On one hand, Lucas and McDonald (1990) and Korajczyk, Lucas, and McDonald (1992) analyze adverse selection altering between firms On the other hand, Choe, Masulis, and Nanda (1993) research adverse selection changing across time In association with these studies, firms are likely to simultaneously publicize equity issues and information in attempt to release information asymmetry (Korajczyk, Lucas and McDonald 1991) Similarly, firms have a tendency to announce equity issues in some favorable periods which hinder firms from the effect of adverse selection as much as possible (Bayless and Chaplinsky 1996) Measuring deviations in adverse selection with temporary changes in the market-to-book ratio is compulsory to observe the impact of alterations in the market-to-book ratio on dynamic capital structure

In the second market timing version, it appears that equity market timing is utilized

by irrational investors on the belief that they could time the market In this way, the market does not need to be inefficient and managers do not necessarily follow a trend in stock returns Rather, equity is issued since managers think that they would irrationally decrease cost and equity is repurchased due to an illogically increase in cost As a result, market-to-book values do not result from future equity returns but relate to high expectations of investors (La Porta 1996; La Porta et al 1997; Frankel and Lee 1998)

2.2 Empirical evidence

2.2.1 The influence of managerial entrenchment on leverage ratio

Kim and Sorensen (1986) and Stulz (1988) find that managerial ownership positively affects leverage ratio, meaning that managerial ownership brings about higher debt ratio to reduce the agency cost of issuing equity In consistent to the finding of Kim and Sorensen (1986) and Stulz (1988), Agrawal and Mandelker (1987) indicate that managers with high managerial ownership are willing to encounter financial distress via increasing debt ratios In addition, John and Litov (2010) find that entrenched managers who have an edge on accessing to debt markets increase their firms’ leverage ratios Bin-Sariman, Ali and Nor (2016) believe that managerial entrenchment positively gives way to

an increase in debt ratios with board of directors’ quality

Nevertheless, Friend and Lang (1988), Bathala, Moon and Rao (1994), Chen and Steiner (1999) suggest that firms with higher managerial ownership causes debt ratio to reduce for fear of causing higher financial risk Furthermore, Berger, Ofek and Yermack (1997), Becht, Bolton and Röell (2003), Hermalin and Weisbach (2003), Holderness (2003), Novaes and Zingales (2003) and Kayhan (2008), demonstrate that because high-entrenched managers are exposed to an increase in stock prices in relation to market timing effect, they have a tendency to cut down on debt ratios Ganiyu and Abiodun (2012) confirm that there is a negative influence of managerial entrenchment on leverage ratio for listed firms in Nigeria and in China (Wen, Rwegasira and Bilderbeek 2002; Quang and Xin 2013)

2.2.2 The impacts of firms’ histories on leverage ratio

2.2.2.1 Financial deficit and Leverage ratio

Myers and Majluf (1984), Shyam-Sunder and Myers (1999) and Baker and Wurgler (2002) appoint financial deficit an essential factor in pecking order and market timing effect The financial deficit, external finance is defined as the net amount of issued and repurchased debt and equity of a firm in a certain year

In pecking order theory, Myers (1984), Myers and Majluf (1984) and Sunder and Myers (1999) contend that firms tend to escalate their external capital since they cope with a high financial deficit or a shortage of free cash flow, leading to an increase in leverage However, the pecking order also suggests that firms have an adequate free cash flow, their leverage tend to decline This is because they will use firms’ retained-earnings from cash flow to finance financial deficit and pay out debt In contrast to the pecking order theory, Frank and Goyal (2003) find that not merely larger but also smaller ones perform a strong impact of financial deficit on equity issue rather than debt financing

Shyam-Due to market timing effect, Baker and Wurgler (2000), Kayhan and Titman (2007) and Kayhan (2008) suggest that, managers prefer equity to debt for raising external capital

on the basis that they can time the equity market This brings about a cut down on debt financing Similarly, Law and Chong (2011) suggest that financial deficit negatively affects leverage ratio of Thai firms

2.2.2.2 Market timing and Leverage ratio

A timing measure is developed on the grounds that firms are apt to expand their source of funds with equity rather debt owing to an increase in stock prices (Baker and Wurgler 2002)

Based on the timing measurement in the study of Baker and Wurgler (2002), Kayhan and Titman (2007) separate it into two different types of timing measures, both of which employ a vital role of the financial deficit, including yearly timing and long-term timing The yearly timing measure contains the covariance between total external finance and market-to-book ratio This means that the issuing of equity assists a rise in funds due

to short-term overvaluation that is determined by current market-to-book ratio compared to that of surrounding years (Kayhan and Titman 2007; Kayhan 2008) The long-term timing measure expresses that whether market-to-book ratio is high or low is not only in related to

that of surrounding years in a firm, but also is in association with market-to-book ratios of all firms in market

Furthermore, Seyhun (1986), Seyhun (1990) and Liu (2009) takes advantage of insider sales as an alternative market timing measure which is measured by a percentage of net volume of secondary share offerings and total shares outstanding at the end of a year

As a result, the author points out that the market timing variable is insignificant to leverage

2.2.2.3 Stock price returns and Leverage ratio

Graham and Harvey (2001) are in agreement with the results of Hovakimian, Opler, and Titman (2001) and Welch (2004) They demonstrate that high stock prices give rise to

a tendency of the issuing of equity However, declines in stock prices virtually result in the repurchasing of shares As a result, stock returns tend to have a negatively significant impact on leverage ratio

Furthermore, in the research of Kayhan and Titman (2007), Kayhan (2008) and Law and Chong (2011), the difference between one-year stock returns and previous years’ stock returns also represents for the market timing proxy They conclude that leverage ratio

is reduced when firms gain benefits from high market stock returns

2.3 Hypotheses

2.3.1 Managerial entrenchment effect and Leverage ratio

Novaes and Zingales (1995, 2003) indicate that managers manipulate the debt choice to maximize their entrenchment or to retain their tenure or terms in office When the punishment mechanism is tightened, managers arrive at a reduction in debt level to deal with great takeover pressure

Moreover, Jung, Kim, and Stulz (1996) find that debt financing is not put a high priority on raising funds for firms’ investment Instead, the poorer investment opportunities these firms have, the more portion of equity is issued Their study also shows that the investment capacity of firms issuing equity is larger than that of firms financing debt As a result, Jung, Kim, and Stulz (1996) demonstrate that due to severe agency costs, entrenched managers considerably issue equity regardless of how better outcomes for firm value would be when issuing debt

Thanks to these above explanations, Berger, Ofek and Yermack (1997), Kayhan and Titman (2007) and Kayhan (2008) confirm that a reduction in debt ratio results from the managerial entrenchment effect, meaning that managers use debt financing a tool to protect themselves from firms’ performance pressure, their under-diversification in investment choices and their tenure or entrenchment

Hypothesis 1 There is a negative relationship between managerial entrenchment and leverage ratio

2.3.1.1 Block-holder holdings and Leverage ratio

Five – Block-holder holdings – Beneficial ownership is defined as the percentage

of block holder holdings (at least 5 percent of shareholdings) Block-holders are the representative owners of a company This means that a large number of block-holders may have a great influence on the manager’s decisions such as determining leverage ratio, intensifying the control of managerial entrenchment (Grossman and Hart 1980; Shleifer and Vishny 1986) On the other hand, block-holders are seemingly persuaded and associated with managers against minor investors (Becht, Bolton and Röell 2003) Furthermore, the dominant presence of block-holders shares nothing in common with important corporate decisions, increasing managerial entrenchment (Holderness 2003)

Berger, Ofek and Yermack (1997) and Kayhan (2008) indicate that a rising of block-holder holding brings about a decrease in leverage ratio

Hypothesis 2 The higher proportion of block-holder holdings gives rise to the higher of managerial entrenchment and the lower of leverage ratio

2.3.1.2 Board size and Leverage ratio

Jensen (1993) and Wen, Rwegasira and Bilderbeek (2002) support a positive influence of board size on leverage ratio They believe that larger boards decide to enlarge debt ratio to promote corporate value On the contrary, for severe agency conflicts, managers seemingly become high-entrenched managers and free-riding managers; hence, larger boards seem to have less impact on controlling the management and financing decisions-leverage ratio (Yermack 1996) Berger, Ofek and Yermack (1997), Kayhan (2008) and Quang and Xin (2013) provide a negative relationship between board size and leverage ratio due to managerial entrenchment

Hypothesis 3 Board size has a negative impact on leverage ratio

2.3.1.3 Director age and Leverage ratio

Firms with older-dominated directors on the board tend to increase managerial entrenchment (Berger, Ofek and Yermack 1997) According to Vafeas (2003), the older-dominated board is likely in lack of monitoring the board, giving rise to a higher turnover

of CEO Berger, Ofek and Yermack (1997), Wen, Rwegasira and Bilderbeek (2002) and Kayhan (2008) argue that older director have a tendency to avoid an upsurge in debt ratio

in order to protect their own interests

Hypothesis 4 Older directors save firms from a surge in leverage ratio

2.3.1.4 CEO-Chairman duality and Leverage ratio

When CEOs are in charge of the chairman position, they tend to make financing and leverage decisions without restrictions, leading to higher managerial entrenchment (Fama and Jensen 1983; Goyal and Park 2002) This is due to a lack of control in making decisions, contributing to a harmful influence on financing decisions Berger, Ofek and Yermack (1997), Kayhan (2008) and Ganiyu and Abiodun (2012) find that CEO-Chairman

Hypothesis 5 The duality role of managers negatively impacts leverage ratio

2.3.1.5 Board composition and Leverage ratio

Hermalin and Weisbach (2003) suggest that the ability to access firms’ information

of outside directors is restricted, leading to a high level of managerial entrenchment The more outsider directors are on the board, the higher level of CEO’s entrenchment has on leverage decisions (Hermalin and Weisbach 1988; Hermalin and Weisbach 2003) Besides, for a tightened monitoring from outside directors, managers prefer to narrow down leverage ratio to limit the pressure of large fixed interest (Jensen 1986; Wen, Rwegasira and Bilderbeek 2002; Kayhan 2008)

Hypothesis 6 The percentage of outside directors on the board is in association with a decline in leverage ratio

2.3.1.6 CEO age and Leverage ratio

With accumulated experience and reputation, older CEOs with a dual position emphasize a strong impact on the management, providing them a bargaining power against the board and being less vulnerable to be assessed (Berger, Ofek and Yermack 1997; Goyal and Park 2002) Older CEOs likely prevent firms from a growth in leverage ratio in attempts to deal with corporate management mechanism and strengthen their term in office (Berger, Ofek and Yermack 1997, Wen, Rwegasira and Bilderbeek 2002; Kayhan 2008)

Hypothesis 7 CEO age exhibits a negative relation to leverage ratio

2.3.2 The relationship between firms’ histories and leverage ratio

2.3.2.1 Financial deficit and Leverage ratio

In pecking order theory, Myers (1984), Myers and Majluf (1984) and Sunder and Myers (1999) contend that firms tend to escalate their external capital since they cope with a high financial deficit or a shortage of free cash flow, leading to an increase in leverage However, the pecking order also suggests that firms have an adequate free cash flow, their leverage tend to decline This is because they will use firms’ retained-earnings from cash flow to finance financial deficit and pay out debt In contrast to the pecking order theory, Frank and Goyal (2003) find that not merely larger but also smaller ones perform a strong impact of financial deficit on equity issue rather than debt financing Due to market timing effect, Baker and Wurgler (2000), Kayhan and Titman (2007) and Kayhan (2008) suggest that, managers prefer equity to debt for raising external capital on the basis that they can time the equity market This brings about a cut down on debt financing

Shyam-Hypothesis 8 There remains a negative effect of financial deficit on leverage ratio

2.3.2.2 Market timing measures and Leverage ratio

Based on the timing measurement in the study of Baker and Wurgler (2000), Kayhan and Titman (2007) separate into two different types of timing measures, both of which employed a vital role of the financial deficit, including yearly timing and long-term timing The yearly timing measure contains the covariance between total financial deficit

or external finance and market-to-book ratio This means that the issuing of equity assists a rise in funds due to short-term overvaluation that is determined by current market-to-book ratio compared to that of surrounding years (Kayhan and Titman 2007) The long-term timing measure expresses that whether market-to-book ratio is high or low is not only in related to that of surrounding years in a firm, but also is in association with market-to-book ratios of all firms in market A rising of market-to-book is in association with a better growth opportunity Hence, debt financing – external financing capacity will be save for the future demands (Law and Chong 2011)

Alternatively, Liu (2009) takes advantage of insider sales as an alternative market timing measure which is measured by a percentage of net volume of secondary share

offerings and total shares outstanding at the end of a year Insider sales variable generally

is the difference between number of selling shares and number of purchased shares Repurchased shares come from an incline in stock prices while selling shares occurs when price increases (Seyhun 1986) Seyhun (1990) suggests that with the help of insider sales, top managers approximately get a paid off of 3 percent return on transactions The higher stock prices are, the more insider transactions mangers trade This means that equity issuing is preferred over debt financing

Hypothesis 9 An increase in market timing measures attributes a decline to leverage ratio

2.3.2.3 Stock price returns and Leverage ratio

Graham and Harvey (2001) are in agreement with the results of Hovakimian, Opler, and Titman (2001) and Welch (2004) They demonstrate that high stock prices give rise to

a tendency of the issuing of equity However, a decline in stock prices virtually results in the repurchasing of shares, leading to a decrease in leverage ratio Furthermore, in the research of Kayhan and Titman (2007), Kayhan (2008) and Law and Chong (2011), the difference between one-year stock returns and previous years’ stock returns also represents for the market timing proxy They conclude that leverage ratio is reduced when firms gain benefits from high market stock returns

Hypothesis 10 Stock price returns performs a negative influence on leverage ratio

2.3.2.4 Profitability and Leverage ratio

Owing to the pecking order theory, Myers (1984) and Jensen (1986) suggest that firms with better growth and investment opportunity, generate more profits and a great deal of cash in place; therefore, firms will use retained earnings from profits to pay out debt, causing a decrease in leverage ratio Furthermore, Myers (1984) emphasizes the role

of financial distress and interest tax shields Specifically, Auerback (1979) tax has an effect

at the personal level on the distributions of profits, meaning that shareholders will not gain any benefits from dividend payouts Taking advantage of tax, firms will negotiate an agreement with shareholders to retain dividend and save for investments, leading to a reduction in debt ratio In addition, Hennessy and Whited (2005), Strebulaev (2007), Titman and Tsyplakov (2007) and Frank and Goyal (2009) provide simulations in detail to

confirm that taxes on distribution profits and profits do have a negative impact on debt ratio Firms with high profits likely encounter financial distress from over-leverage

Hypothesis 11 A rise in profitability gives way to a decrease in leverage ratio

2.3.2.5 Leverage deficit and Change in target leverage

Leverage deficit is the difference between the realized leverage from its target leverage The leverage deficit is based on the idea that a firm with low (high) leverage ratios than its target leverage has a tendency to increase (decrease) debt ratios Moreover, change in target leverage is the difference between the current target leverage ratio and the previous target leverage ratio (Kayhan and Titman 2007; Kayhan 2008)

Hypothesis 12 Leverage deficit and change in target leverage are expected to diminish or expand by virtue of change in target leverage ratio

•Change in target leverage

Firms' histories •Leverage ratio includes the

book leverage ratio and the market leverage ratio.

Firms' leverage

Figure 2.2 Analytical framework The relationship between management entrenchment, firms’

histories and leverage

2.4 Analytical framework

The following conceptual framework is developed for the purpose of this study in which the effects from both managerial entrenchment and firms’ histories on firms’ leverage ratio are considered simultaneously

CHAPTER 3

RESEARCH METHODOLOGY AND DATA

3.1 Vietnam’s corporate governance and securities market framework

3.1.1 Vietnam’s corporate governance and institutional background

3.1.1.1 Vietnam’s adoption of corporate governance standards

The G20/OECD principles of corporate governance which were first publicized in

1999 and improved in 2004 and then in 2015, are the instructions for Vietnam’s firms to follow and enhance the corporate governance framework The principles were translated into Vietnamese and implemented into the Law on Enterprises 2005 (Law No 60/2005/QH11 issued by the National Assembly) Although the perception and the practical application of the principles are well-adapted, the legal gaps are required to be progressively well-adjusted and filled This is because the separation and uncertainty of the ownership structure and its function have yet to be solved and the financial information has

a lack of transparency

Vietnam corporate governance assessment in 2006 and then in 2013 listed some of the significant following issues: (i) institutions’ ability and resources are restrained from ensuring the market regulation and development; (ii) investors – shareholders are inhibited from institutional protection; (iii) The investors’ ability to access agency conflict information is limited by the management (International Finance Corporation and the State Securities Commission Vietnam 2006; International Finance Corporation and the State Securities Commission Vietnam 2013)

In 2010, the Vietnam corporate governance scorecard – Baseline report indicated that corporate governance practices of 100 largest listed companies are no more than 50 percent (International Finance Corporation and the State Securities Commission Vietnam 2010)

3.1.1.2 Vietnam’s corporate governance legal framework

The Vietnam corporate governance legal framework is mainly governed by regulations and the Law on Enterprises 2005 which are obligated by the government’s primary and secondary legislation Primarily, Vietnam enterprises obey the Law on

Enterprises 2005 On the contrary, Vietnam firms are exposed to some following weaknesses

The legislation provision on interest conflicts among the owners and the managements is still vague and incoherent The general meeting of shareholders (GMS), based on the Law on Enterprises 2005 representative for shareholders, has the right to select and dismiss members on the board However, when the conflicts of shareholders and board, which are pushed to the limit, require intervention from law court, the GMS cannot

be defendant class action or representative action to bring boards up on charges This is because this type of law suit has not been updated in the Law on Enterprises 2005 (Freeman and Nguyen 2006) In addition, the justice for the minority shareholders is seemingly not well defined since the large shareholders with political connections sometimes escape from punishment from law court The minority shareholders still are manipulated while the large shareholders will chase their own interests at the expense of those of the minority shareholders As a result, the biased legislation does not solve the agency conflicts effectively (Freeman and Nguyen 2006)

The Vietnam firms’ corporate governance structures are not well designed Shareholders’ self-regulate is confined and corporate accountability principles have yet to

be flexible and adaptable in response to rapid change in business environment (Minh and Walker 2008)

Corporate charter also plays an indispensable role in constructing corporate governance in Vietnam firms The charter specifies a company’s crucial components including objectives, structure, and planned operations The charter seems to be more outstanding than the Law on Enterprises 2005 in that the corporate charter immensely focuses on providing the protection mechanisms to the minority shareholders In fact, most

of Vietnam’s corporate charters have not been unique to one another and they still share common requirements and standards with the Model Charter 2007 imposed by the Ministry

of Finance under Decision No 15/2007/QD-BTC dated March 19, 2007 Hence, the enforcement of corporate charter is not robust and the protection of minority shareholders keeps on being ignored (Freeman and Nguyen 2006)

3.1.2 The background of Vietnam’s securities market

The arrival of the 1986 economic renovation (Doi Moi) urged Vietnam to reform the market and institute a securities market After a long preparation, the State Securities Commission (SSC) was formed in November 1996 The State Securities Commission is considered as the highest principal regulator of the capital markets involving market intermediaries and public and listed enterprises under Decree No 48/1998/ND-CP dated July 11, 1998 issued by the Government The State Securities Commission and the securities market is regulated by the Law on Securities 2006 (Law No 70/2006/QH11 issued by the National Assembly) and is in charge of supervising two Securities Trade Centers (STCs) including Ho Chi Minh Stock Exchange (HOSE) and Hanoi Stock Exchange (HNX) Along with the Ministry of Finance, the State Securities Commission also publishes corporate governance principles and corporate charter for public companies

As a consequence, these statements lead to the formation of the securities regulatory framework (Nguyen and Eddie 2003; International Finance Corporation and the State Securities Commission Vietnam 2006; International Finance Corporation and the State Securities Commission Vietnam 2013)

The growth of the securities market is limited by virtue of remaining issues, in spite

of the beginning achievement from applying the securities administration framework First, equity and debt instruments need to be increased in size and provided with a wide range of choice The access to financial information requires transparency The education of Vietnamese investors and the SSC staff serves an indispensable role in developing the securities market The two Securities Trade Centers’ technology infrastructure has yet to

be improved In addition, the scale of the securities market is not closely corresponded with the potential development of country for lack of some major industries The securities companies have not performed as the intermediary in matching capital demand and supply between individuals and enterprises Significantly, large numbers of shares are manipulated by a small group of “big” investor, amplifying the vulnerability of the market (Nguyen and Eddie 2003)

Ho Chi Minh Stock Exchange (HOSE) was formed in 2000 and the number of listed stock was humble due to two listed companies Despite it has yet been fully developed, the establishment of Ho Chi Minh Stock Exchange plays a key symbolic feature in Vietnam Ho Chi Minh Stock Exchange is likely paid more attention than Hanoi

as larger enterprises and are invested by more foreign investors Moreover, companies listed on Ho Chi Minh Stock Exchange must satisfy higher requirements for capital and profits in advance of the listing at least 2 years (Nguyen and Eddie 2003; International Finance Corporation and the State Securities Commission Vietnam 2013)

In spite of exposing to drawbacks, the formation of Ho Chi Minh Securities Trade Center contributes a major role in constructing Vietnam financial system This is because the Vietnam economy transforms from a centrally planned economy to a market economy

In fact, the gradual growth of the securities market is in association with the progress of the market constructions and the financial market The securities market structures are also well-organized based on the economy with the developing financial markets Definitely, the well-established leads to the confirmation of stability for future (Nguyen and Eddie 2003)

3.2 Data sources

This study uses a dataset of 289 non-financial firms collected from Ho Chi Minh Stock Exchange (HOSE) during the period of 2006 to 2015 The secondary dataset is extracted from several sources such as firms’ annual reports, financial statements, and available firms’ information on official websites – cafef.vn, cp68.vn, and vietstock.vn All financial firms are eliminated from the sample since banks, insurances and investment funds possess a different capital structure compared to those of firms in the non-financial

sector

3.3 Research methodology

There are three parts of analysis in this section First, by using the Ordinary Least

Squares (OLS) method, a two-stage approach is employed (i) to determine the target leverage level; and (ii) to estimate two independent variables such as leverage deficit and change from target leverage and to quantify the influence of managerial entrenchment

effect and firms’ histories on firms’ leverage ratios Second, the Generalized Method of

Moments (GMM) is used to eliminate the endogeneity problem caused by financial deficit

– a determinant of firms’ characteristics to leverage ratios Third, with the aid of

Endogenous switching regression method, the impact of managerial entrenchment in both high and low regime together with firms’ characteristics on leverage ratios is specified

3.3.1 The two-stage approach in determining leverage ratios

3.3.1.1 The target leverage ratio estimation

Following Kayhan and Titman (2007), the Ordinary Least Square (OLS) method is utilized to construct the target leverage

𝐿𝑇𝑎𝑟𝑔𝑒𝑡𝑖𝑡 = 𝛼0+ 𝛽1𝑀/𝐵𝑖𝑡 + 𝛽2𝑃𝑃𝐸𝑖𝑡+ 𝛽3𝐸𝐵𝐼𝑇𝑖𝑡+ 𝛽4𝑅&𝐷𝑖𝑡+ 𝛽5𝑅&𝐷 𝑑𝑢𝑚𝑚𝑦𝑖𝑡

+ 𝛽6𝑆𝐸𝑖𝑡+ 𝛽7𝑆𝐼𝑍𝐸𝑖𝑡+ 𝛽8𝐼𝑛𝑑𝑢𝑠𝑡𝑟𝑦 𝑑𝑢𝑚𝑚𝑦 + 𝜀𝑖𝑡

where:

 LTargetit : Target leverage level of firm i in year t,

 M/B: Growth opportunities – the market-to-book ratio of firm i in year t,

 PPE: Property, plant and equipment of firm i in year t,

 EBIT: Profitability of firm i in year t,