UNIVERSITY OF ECONOMICS HO CHI MINH CITY VIETNAM INSTITUTE OF SOCIAL STUDIES THE HAGUE THE NETHERLANDS VIETNAM- NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS DETERMINANTS OF CORPORATE INVESTMENT DECISIONS: THE CASE STUDY OF VIETNAM A thesis submitted in partial fulfilment of the requirements for the degree of MASTER OF ARTS IN DEVELOPMENT ECONOMICS By PHAN THI ANH DONG Academic Supervisor: PHAN DINH NGUYEN HO CHI MINH CITY, May 2012 Certification "I certificate that the substance of the thesis has not already been submitted for any degree and is not currently submitted for any other degree I certify that to the best of my knowledge and help received in preparing the thesis and all sources used have been acknowledged in the thesis." Signature Phan Thi Anh Dong Date: I I 2012 Acknowledgements This thesis marks the completion of my Master degree in Development Economics at Vietnam-Netherlands project I am truly grateful to my supervisor, Dr Phan Dinh Nguyen, for his help and support over the period of my thesis Without his help in constructive follow-up, insightful and helpful comments, I would not have been successful in completing this master thesis I would like to express my deepest gratitude to all people and organizations that supported, provided assistance and information in order to make this thesis Furthermore, I deeply appreciate the lecturers and staff of the project, who helped improve my knowledge and fulfill the program I am also grateful to my close friends for their warm encouragement Finally, I further wish to thank my family members who have greatly supported me during my study Their love and support mean a great deal to me I would like to reserve the pleasure of the graduate for them Thank you very much to all of you! ii Table of Contents Certification i Acknowledgements .ii Table of Contents : iii List of Tables v ' List of Abbreviations vi Abstract vii CHAPTER 1: INTRODUCTION 1.1 Problem statement 1.2 Research Objectives 1.3 Research questions 1.4 Scope and Methodology of Research 1.5 Research structure CHAPTER 2: LITERATURE REVIEW 2.1 Theoretical literature 2.1.1 Irving Fisher's Theory oflnvestment 2.1.2 J.M Keynes theory: Marginal Efficiency oflnvestment 2.1.3 Jorgenson's Optimal Theory 10 2.1.4 James Tobin's q theory oflnvestment 12 2.2 Empirical literature · ···· ······················ 13 CHAPTER 3: RESEARCH METHODOLOGY 21 3.1 Data sources 21 iii 3.2 Variables 21 3.2.1 Dependent variable 22 3.2.2 Independent variables 22 3.3 Modeling specification 28 3.4 Methods of estimation 29 3.5 Conclusion 32 CHAPTER 4: EMPIRICAL RESULTS AND DISCUSSION 33 4.1 Descriptive Statistics of dependent and independent variables 33 4.2 Correlation analysis 34 4.3 Empirical Results 36 4.3.1 Examining the determinants of corporate investment decisions using FEM estimators 4.3.2 Examining the determinants of corporate investment decisions using GMM estimator 42 CHAPTER 5: CONCLUSION, RECOMMENDATION AND LIMITATION 47 5.1 Conclusion 47 5.2 Policy Recommendation 50 5.3 Limitation ·51 References 52 Appendix 58 iv List of Tables Table 2.1: Empirical Studies about Determinants of Corporate Investment Decisions 59 Table 3.1: A Set of Dependent and Independent Variables 23 Table 4.1: Basic Statistics of the Key Variables 34 Table 4.2: Correlation Coefficients ofthe Explanatory Variables 35 Table 4.3: Regression Analysis oflnvestment Equations 36 Table 4.4: GMM Estimator oflnvestment Equation 42 v List of Abbreviations FE Fixed Effects FEM Fixed Effects Model GMM Generalized Method of Moment HET Heteroskedasticity IV Instrument Variables LM Larange Multiplier M&M Modigliani and Miller MEl Marginal Efficiency of Investment Pooled OLS Pooled Ordinary Least Square RE Random Effects REM Random Effects Model VAR Vector Auto Regressive WTO World Trade Organization vi Abstract The purpose of this study is to examme the impact of cash flow, investment opportunities, and other financial factors on corporate investment decisions using panel data for Vietnamese listed firm from 2006-2010 This research adopts static model employing Fixed Effects which the most appropriate model in analyzing panel data through specification tests The findings indicate that cash flow is a key determinant of corporate investment decisions However, investment opportunities are positive and insignificant related to investment decisions Other financial factors such as fixed capital intensity, business risk, firm size, leverage are all significant in predicting corporate investment decision Moreover, the study also adopts dynamic model utilizing Generalized Method of Moments The results confirm that cash flow is a main element in making corporate investment decisions Nevertheless, investment opportunities are not significant in determining enterprises investment decisions Besides, the lagged level of investment is negative and statistically significant correlated with investment decisions at firm level Other financial factors, namely fixed capital intensity, sales growth, firm size and leverage are all significant in influencing corporate investment decisions Keywords: Corporate Investment, Cash Flow, Tobin's q, Financial Constraint vii CHAPTER 1: INTRODUCTION 1.1 Problem statement The goal of any enterprises when operating as a business is oriented towards maximizing the value of the firm, which in tum increases the return of investment for shareholders In order to achieve this goal, companies must implement a variety of measures, including the selection of an appropriate financial structure This is the most important finance function amongst the modem items It implicates decisions to commit sources of financing to total assets of the firms Capital expenditure or investment decision has significant importance to the firm because of the following reasons: (1) it impacts not only growth of firms in long run but also influences firm's risks; (2) it involves liability of a large amount of capital; (3) it is unalterable, or alterable at heavy financial loss; and (4) it is one of the most difficult decisions to be taken by the firm Because of its role in the firm value, many researchers have studied this issue For instance, Modigliani and Miller theorem (1958) documented that there has been no relation between the financial structure and financial policy for real investment decisions under certain conditions, because the financial structure would not influence the investment costs According to the q-theory of Tobin (1969) and extended into a proposed model by Hayashi (1982), investment demand could be predicted by the ratio of the market value of the firm's capital stock to its replacement cost under perfect market assumptions; and its market value could also explain further investment opportunities Nonetheless, the results of previous studies in different countries using the q-theory of investment are mixed In particular, Hall et al (1998) studied the key factors which affect investment in scientific firms for the United States, France and Japan during the period 1979-1989, and found that the profit, sales, cash flow and investment have connections, but differs for each country Aquino (2000) found contrary results that there was no significant relationship between investment rate and q He also showed that there is an insignificant relationship between the investment rate and cash flow The Vietnamese government has implemented a series of policies aimed at improving the business environment for enterprises in the country This comes in the wake of Vietnam's joining of the WTO in 2007, and since then, a variety of companies have invested in multi-sectors businesses and spread-out, in order to become conglomerates This has conversely created a trend These businesses have been investing in several projects which not relate directly to their strong main sectors such as real estate and stocks, while the management capacity and inexperience of enterprises, the government's institutions, and infrastructure have not developed as fast as the multisector and spreading investments Instead of investing directly in foundational material such as machinery, construction and renovation of factories, research and development (R&D), and improving human resource managem~nt so as to develop their businesses, they have chased the trend of the multi-sector and spread investment so that they can obtain benefits immediately As a consequence, the efficiency in investment of corporate businesses lowers, and may even be at the level of a loss Because of this, it can cause stagnant equity, and influence the financial situation of the firms This could ultimately lead to bankruptcy; as in the cases ofVINASHIN and EVN2 • VINASHIN is a Vietnam Shipbuilding Industry Group This Group involved in many projects in several different fields of economics beside its main business - shipbuilding; for instance, sea transport, ports, steels, Kalatzis (2006), Adelegan and Ariyo (2008), Jangili and Kumar (20 10), Li et al (2010), Nair (2011), Ruiz-Porras and Lopez-Mateo (2011) Secondly, Tobin's q is mostly positive and statistically insignificant related to investment decision across specifications, namely FEM with robust standard errors and GMM This result reveals that Tobin's q or investment opportunity does not stimulate investment activities of listed firms in the Vietnamese stock market Thirdly, fixed capital intensity is absolutely positive and statistically significant associated with corporate investment decision across all estimators It indicates that fixed capital intensity helps investment activities be intensive The finding also affirms that fixed capital intensity is a major determinant of investment decisions for improving product quality and productivity Fourthly, sales growth and investment have a positive and statistically insignificant relationship across FEM, FEM with robust standard errors, and GMM regressions It reveals that sales growth does not help stimulate investment activities of firms This result can be explained as follows: because this growth is small and potential profitability is not as expected; hence, the firms will be careful in making investment decisions Fifthly, business risk is almost negative and statistically significant associated with investment decisions across estimation methodologies, namely FEM and FEM with robust standard errors This result implies that business risk is the main determinant of corporate investment decisions The reason is that during this period, firms are influenced by crises (financial crisis and debt crisis) in the world and difficulties of Vietnamese economy Thus, they are afraid of investment in risk projects Nevertheless, in the GMM technique, business risk variable becomes less significant in statistics 48 Sixthly, the connection between firm size and investment decision is definitely negative and significant in statistics across estimators It demonstrates that firm size is a key element in making investment decisions at the firm level Besides, it implies that the larger the firms are, the less investment they will make due to weak at management and leadership capacity in large firms This result is consistent with the finding by Ninh L.K et al (2007), Bokpin and Onumah (2009) Seventhly, the relationship between leverage and investment decision is truly positive but mixed in statistics across estimation methodologies Particularly, this insignificant association is pointed out in FEM However, the link between investment and leverage is statistically significant in FEM with robust standard errors and GMM It portrays that although this is a difficult period, banks still believe in performance of firms with a good credit history; and management board has a faith in potential profitability to service obligation This helps firms be incentive investment decisions This result is persistent with the finding by Azzoni and Kalatzis (2006), Ninh L.K et al (2007), Adelegan and Ariyo (2008), Jangili and Kumar (2010), and Nair (2011) Next, the combination between leverage and concentration ownership is absolutely negative and statistically significant correlated with investment activities across estimators except FEM It implies that despite state-owned firms might be easier to access capital markets than non-state owned ones; this interaction is a substitute combination in stimulating investment decisions Finally, the first lag of investment is also an element which influences investment decisions at the firm level in the GMM technique This result is consistent with findings of Carpenter and Guariglia (2008), and Bokpin and Onumah (2009) 49 5.2 Policy Recommendation On the basis of the empirical results, few suggestions on the improvement of investment decisions at the firm level are given as follows: Firstly, the firms need capital to finance for their investments in order to eliminate outdated technology and develop the scale The capital sources can be from two channels such as internal and external funds Therefore, for internal fund, enterprises themselves must have transparent information and financial statements with the efficient businesses to create the confidence for shareholders to invest continuously and more In other words, all kinds of firms (state-controlled or non-state owned enterprises, small or large firms) must be required to publish annual reports audited by independent and reputable accounting firms From that, the firms can mobilize more capital for investment For external fund, it is necessary to enhance borrowing capacity of the firms, especially in non-state owned enterprises Despite the Vietnamese government usually states its commitment to support the non-state owned enterprises, in fact the state-controlled firms keep receiving many advantages, especially in capital; whilst the non-state owned firms continue to suffer from the harassment of government officials, especially in taxation and customs areas The government must make good the unbiases by ensuring that resources are allocated to those who can utilize them most efficiently Furthermore, it is essential to remove aversion loans to non-state enterprises of the banking system In order to this, a legal, which is related to these firms, need to be established and strengthened to limit the risks to financial and credit system lending to these enterprises Besides that, banks need to improve processes and procedures to facilitate easier for businesses in the mortgage assets for loans 50 Finally, the government, especially in banking, should help the enterprises maintain a proper system of standard books, make proper business planning and business strategy From that, it can improve the exchange of information between enterprises and banks 5.3 Limitation Within this research, the limitations will be highlighted with a short description First of all, the scope of the thesis is limited due to time and resource limitation; hence, this research employs data of listed firms on Vietnamese stock market Although their financial statements published to the public are audited independently, but it is not sure that these reports are accuracy, transparency, clearance without being dominated by a person or a benefit group in reality Therefore, the values of the variables in the model calculated from these reports are unavoidable bias Added to this, using the period of years (2006-20 10) is too short whilst several firms have operated very long before this period This cannot reveal all the nature of the issue of investment decisions, especially in this sensitive period of financial crisis Furthermore, firm size variable measured by the natural log of the total employees is more 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