MSC Thesis 2019
Risk-taking and Internationalization, the role of
corporate governance and creditor rights
________________________________________________________________________ Abstract: This thesis explores whether firm-level risk-taking is associated with the level of internationalization and argues that there are both theoretical reasons and empirical evidence to consider that the increasing level of internationalization would either increase or decrease risk-taking. Additionally, this thesis investigates if firm-level corporate governance and country-level creditor rights affect the relationship between risk-taking and internationalization. An international sample derived from Asset4 data on Thomson Reuters Datastream database and contains 4202 firms from 35 countries for the period of 2002-2016 with total observations of 33,694. The results indicate that risk-taking will increase with the level of internationalization. Regarding the country-level moderator, as inconsistent with expectations the findings show that creditor protection will decrease the negative effect of the degree of internationalization on risk-taking. Regarding the firm-level moderator, the analysis fails to provide significant results for the moderating effect of firm-level corporate governance on the relationship between the degree of internationalization and the risk-taking.
Keywords: corporate risk-taking, corporate governance, internationalization, creditor rights
University of Groningen
Faculty of Economics and Business MSc International Financial Management
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1. Introduction 2
2. Literature Review and Hypotheses 5
2.1. Internationalization 5
2.2. Theoretical issues related to internationalization 6
2.3. Empirical evidence of internationalization and risk-taking relationship 7
2.4. Corporate governance 8
2.4.1. The moderating effect of firm-level corporate governance 10 2.4.2. The moderating effect of country-level creditor rights 11
3. Data and measures 13
3.1. Data 13
3.2. Measures 13
3.2.1. Risk Taking 13
3.2.2. Degree of Internationalization 13
3.2.3. Firm-level moderator - Corporate governance 14
3.2.4. Country-level moderator - Creditor rights 14
3.2.5. Control Variables 14
4. Empirical Model and Results 16
4.1. Empirical model 16
4.1.1. Determining risk-taking internationalization relationship 16 4.1.2. Determining the effect of corporate governance 17
4.1.3. Determining the effect of creditor rights 17
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1. Introduction
As globalization increases geographical boundaries in the business world are becoming less important (Javidan and House, 2002), consequently there is a rapid growth in the degree of internationalization. Growth by internationalization is an important concept of corporate strategy that promotes growth (Porter, 1990), thus companies strategically locate their product development organizations and manufacturing facilities around the world to boost their competitive advantage and performance (Rugman,1981; Han et al., 1998; Tallman and Li, 1996). However, next to the benefits internationalization can be subject to risk and the high level of internationalization costs may exceed the benefits of internationalization (Ruig and Wagner, 2003). Costs such as unfamiliarity with foreign markets, cultural diversity, financial risks such as exchange rate fluctuation, political and bureaucratic costs, and agency problem (Reeb et al., 1998; Hsu, Pereira, 2008).
Consequently, risk has become increasingly important and much empirical research has been done whether internationalization affects risk. Early researches suggest that internationalization is risk-reducing (Fatemi, 1984; Michel and Shaked, 1986). Fatemi (1984) compared a portfolio of a multinational corporation (MNC) with a portfolio of domestic firms (DCs) and found that international diversification reduces total and systematic risk. Michel and Shaked (1986) found more evidence for the above theory that MNCs exhibit lower total and systematic risk comparing to their domestic peers. Goldberg and Heflin (1995) also found that the increase in the degree of internationalization decrease systematic risk, in contrast, the degree of internationalization is positively related to total risk. Other studies (Reeb et al., 1998; Olibe et al., 2008; Jung and Bansal, 2009) found that internationalization is positively associated with systematic risk. Reeb et al. (1998) have shown that internationalization increases systematic-risk, which is confirmed with a more recent paper from Olibe et al. (2008), where the authors used geographical segment data.
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(Wright, et al., 1996). This conflict of interest phenomenon addresses one of the main problems that can influence risk-taking, namely agency conflict.
Agency conflict referred most commonly to the separation of ownership and control or the separation of management and finance discussed by Shleifer and Vishny (1997). Agency conflict can be reduced with the improvement of the legal environment (La Porta et al., 1999). The legal environment differs across countries; therefore, the strength of legal protection also differs. Good legal environment protects financiers (La Porta et al., 1997), thus the stronger the legal protection is the more the financier is protected. Consequently, good financier protection leads to more investment in equity and debt as the financier is assured that their investment won't be expropriated. This mechanism enables companies to finance their investments, thereby promoting the growth of the financial markets (La Porta et al., 1997).
There is noticeable evidence that managerial behaviour may reflect their personal interests instead of protecting the interest of investors, especially shareholders. Therefore, agency conflict addressed by the mechanism that corporate governance comprises. Corporate governance is essential for the firm's success as ¨it deals how the suppliers of finance assure their return on their investment¨ (Shleifer and Vishny, 1997). Corporate governance is a broad concept, but La Porta et al. (2000) define how insiders (managers and controlling shareholders) differentiate from outsiders (investors and creditors) and that corporate governance is a mechanism that protects outsiders against company insiders.
The sample used throughout the study covers all industries, except from the financial industry, represented in the ASSET4 global database on Datastream, comprises a sample of 4202 firms with a total of 33,694 observations for the sample period of 2002-2016 from 35 countries.
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between the degree of internationalization and risk-taking. Despite the fact that many studies focus only on equity providers to measure corporate governance, this study focuses on debt providers as well and include creditor protection to measures corporate governance. Corporate governance measured by country-level creditor protection and investigate the moderating effect of it on the relationship between internationalization and risk-taking. Contrary to firm-level corporate governance, creditor protection is found to reduce risk-taking, as management wants to reduce risk in case of bankruptcy. Hence, the third hypothesis is based on this idea and hypothesized that stronger creditor rights increase less/ decrease more the effect of internationalization on risk-taking depend on the relationship between the degree of internationalization and risk-taking.
The results presented in this study indicate that the main relationship is positive between internationalization and risk-taking, consequently, risk-taking will increase more with the level of internationalization. This result is in line with expectations and the founding of Reeb et al. (1998), Olibe et al. (2008) and Jung and Bansal (2009). Regarding the moderating effect of firm-level corporate governance on the relationship between the degree of internationalization and the risk-taking significant result has not been found in this study. Lastly, the moderating effect of country-level creditor protection on the relationship of the degree of internationalization and risk-taking result shows statistically significant moderating effects. Therefore, I can conclude that risk-taking for firms in countries with low creditor rights will decrease with the level of internationalization. Further, creditor rights will reduce the negative effect on risk-taking together with internationalization in countries with strong creditor rights.
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2. Literature Review and Hypotheses
This section provides an overview of previous research conducted in the area of internationalization, risk-taking, corporate governance and creditor rights. Consequently, the main findings from the literature review will be presented to provide hypothesis development.
2.1. Internationalization
Growth in the level of degree of internationalization (DOI) has become perceived as a good functioning firm as well as for its competitiveness and future perspective. In order for a company to stay competitive, it is crucial to exploit foreign market opportunities (Rugman, 1981).
Altaf and Shah (2016) suggest the benefits arising from global market participation foster competitive advantage and boost the performance of an organization. Internationalization improves corporate performance, lower costs through manufacturing, R&D, marketing and distribution system. Internationalization brings global resources together, therefore, MNCs have a superior advantage compare to DCs including skills learned from their international expansion and the enhancement of capabilities which improves profitability and strengthen the long term competitiveness of a firm (Hitt et al., 1997).
Researches proposed that internationalization reduces the probability for bankruptcy as internationalization may lead to changes in firm’s capital structure and increase debt capacity due to larger asset size (Michel and Shaked, 1986; Kwok and Reeb, 2000). Teece’s (1986) study shows that the process of internationalization creates an opportunity to supplement the strategic assets, among other things due to the right to international supplements. Furthermore, different government regulations and policy can create cross-border gains through arbitrage tax regimes, thus internationalization can create location advantages due to their ability to move assets between countries.
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However, there is no perfectly integrated market as there is control for capital flows, differential trading costs, different tax structure and several other factors that make markets to be imperfect (Michel and Shaked, 1986).
2.2. Theoretical issues related to internationalization
Entering a foreign country involves uncertainty because foreign market entry and expansion are less controllable than establishing a new subsidiary in a firm's home country, hence internationalization can be subject to risk (Jung and Bansal, 2009; Ruigrok and Wagner, 2003). Consequently, next to internationalization benefits, internationalization has costs, which may exceed the benefits with a high level of internationalization (Ruigrok and Wagner, 2003). Costs such as unfamiliarity with foreign markets, cultural diversity, financial risks such as exchange rate fluctuation, political and bureaucratic costs, and agency problem (Reeb et al., 1998; Hsu, Pereira, 2008).
As internationalization increases, foreign exchange exposure also increases. Foreign exchange rate fluctuation and inflation directly affect MNCs, generating translation and transaction gains and losses (Reeb et al., 1998). ¨Foreign sales are negatively affected by transaction exposure, market value and ability to raise capital are negatively affected by translation exposure¨ (Olibe et al., 1998). Thus, MNC's operations as a whole suffer from economic exposure and from the variability in foreign returns. Currency fluctuation will also change the demand, supply price and cost characteristic of a firm (Burgman, 1996).
MNCs can also suffer from political uncertainty when governments limit the companies’ freedom to repatriate any of its profit (Michel and Shaked, 1986). MNCs are generally subject to local taxes on their local earnings, but governments can change the business environment of the firm including the changes of tax and accounting rules (Reeb et al., 1998).
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Increasing complexity also leads to asymmetry information and agency problems. The decreased ability of shareholders to monitor management's decisions is becoming more difficult, therefore less effective and more costly as internationalization enlarges. Managers favour to diversifying internationally to increase firm size, reduce firm-specific risk and increasing their prestige. These objectives may differ from shareholders’ objective, which is the maximization of the share price. Monitoring managers and managers risk-taking attitude are likely to increase the riskiness of MNCs (Lee & Kwok, 1988; Reeb et al., 1998). 2.3. Empirical evidence of internationalization and risk-taking relationship
The common view is that internationalization on average increases systematic risk, still, firms aim to maximize their rate of return in line with the appropriate level of risk (Olibe et al., 2008). Early studies posit that the benefit of internationalization is the lower level of risk (Fatemi, 1984; Michel and Shaked, 1986). Fatemi (1984) investigated the shareholders' rate of return comparing a portfolio of MNCs with a portfolio of DCs. In result, the monthly rates of return fluctuate less and betas (average systematic risk) are lower and more stable on MNCs portfolio indicating that internationalization may reduce shareholders’ total risk and systematic risk. Michel and Shaked (1986) found more evidence for the above theory that systematic risk of MNCs is lower than DCs.
Goldberg and Heflin (1995) investigated internationalization effects on market risk and on total risk and found similar results to Fatemi (1984) and Michel and Shaked (1986) that higher level of DOI decreases systematic-risk. With regard to total risk, the authors found contrasting results for the above, that political, currency and other risks of international operation seem to increase total risk, accordingly increasing DOI increases the total risk of a firm.
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Other studies (Reeb et al., 1998; Olibe et al., 2008; Jung and Bansal, 2009) found that internationalization is positively associated with risk. Reeb et al. (1998) examine whether MNCs have a lower level of systematic risk compared to DCs. The results show a highly significant relationship between internationalization and MNCs systematic-risk. Olibe et al. (2008) used geographical segment data to investigate whether systematic-risk increases or decreases with the level of internationalization and found that international diversification on average increase systematic-risk. Jung and Bansal (2009) investigate whether firm performance affects risk-taking and found a positive relationship. Based the founding the authors tested the theory that internationalization is a risky strategy and firms with low performance take less risk, consequently less internationalized.
These findings propose that the costs of internationalization are higher than the benefits, from this I propose the following hypothesis.
H1a: Risk-taking will increase with the level of internationalization H1b: Risk-taking will decrease with the level of internationalization
2.4. Corporate governance
The attention to corporate governance has grown extensively due to the financial crises and corporate scandals (Enron, World Com). As a result, many governments have strengthened the regulations of corporate governance started with the biggest act of regulations involving business ethics, the Sarbanes-Oxley Act of 2002, to ensure ethical business practices and restore public faith.
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A manager raises funds from investors along with choosing strategies which can increase shareholders risk by taking riskier projects than their current portfolio. In this way, shareholders benefiting from the project, but debtholders risk increasing. For instance, managerial behaviour may reflect their personal interests instead of protecting the interest of investors, especially shareholders. Investors have to make sure that their funds are not expropriated or wasted on unappealing projects.
With the improvement of the legal environment, agency conflict and managerial self-dealing can be reduced (La Porta et al., 2000; Shleifer and Vishny, 1997). According to Shleifer and Vishny (1997), the benefit of the debt contract is the mechanism for reducing agency problem as it can transfer control to the lender. When there are no legal protection insiders can steal the firm's profit, thus legal protection of outsiders is paramount as it protects from expropriation. From the insider point of view, investors are willing to finance firms when shareholders rights, most importantly the voting rights in the election of directors and other important corporate matters, as well as the rights to make specific claims against the corporation are enforced by regulators or courts (La Porta et al. 2000).
Shleifer and Vishny (1997) describe the two most common approaches to corporate governance rely on giving power to investors, the first approach is the given legal protection to the investor for example minority rights and legal prohibitions against managerial self-dealing. The second approach is ownership by large investors, where control rights are matched with cash flow rights (Shleifer and Vishny, 1997). Shareholders receive dividends for their financial investment, but unlike creditors, they are not contracted to receive a return on their investments and may do not get back anything at all because of the controlling shareholders or managers expropriate them (La Porta et al., 2000).
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The above discussion shows the relationship between firm-level corporate governance, country-level investor protection and corporate risk-taking in a geographically diversified environment.
2.4.1. The moderating effect of firm-level corporate governance
According to previous researches, corporate governance encourages and discourages corporate risk-taking. Studies from Bargeron et al. (2010) and Cohen and Dey (2013) examining the effect of SOX on corporate risk-taking support the idea that stronger corporate governance reduces corporate risk-taking. Jiraporn et al. (2015) use the most comprehensive measure for corporate governance provided by the Institutional Shareholder Services (ISS) and also found that firms with stronger corporate governance exhibit lower corporate risk-taking. Boubakri et al. (2013) found corporate governance to be also related to risk-taking and that state ownership is negatively related to corporate risk-taking while foreign ownership is positively related to risk-taking.
John et al. (2008) found that in a stronger corporate governance environment, stakeholders are less able to pursue their self-interests, therefore they are less able to reduce corporate risk-taking. In this paper, the authors measure corporate governance both firm and country level and the results show that better corporate governance induces corporate risk-taking. In a later paper from Bruno and Shin (2014), the authors found that the legal system is positively related to corporate risk-taking, which is consistent with John et al. (2008) works. In the latest paper from Koirala et al. (2018), corporate governance effects investigated in Indian firms, where strong evidence found that the enforcement of corporate governance increases corporate risk-taking. Faccio et al. (2011) was investigating corporate governance on the country level and found that risk-taking is significantly higher in countries where shareholder protection is stronger.
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The above discussion proposes that firm-level corporate governance increases risk-taking. Consequently, if the effect of internationalization and risk-taking is positive and the interaction term is positive, strong corporate governance of international firms will create a stronger positive effect on risk-taking. If the effect of internationalization and risk-taking is negative and the interaction term is positive strong corporate governance will create weaker negative effects on risk-taking.
From the discussion above I propose the second hypothesis.
H2a: Risk-taking will increase more together with the level of internationalization and corporate governance
H2b: Risk-taking will decrease less together with the level of internationalization and corporate governance
2.4.2. The moderating effect of country-level creditor rights
Debt contracts are another way to provide a financial source to firms, therefore, it is also an important resource for firms investments, however, most of the studies do not include creditor protection to measure corporate governance even it is part of the broad concept of corporate governance (La Porta et al., 2000). The majority of researches on the investor protection and risk-taking link focuses on the subject from the debt supplier point of view (Djankov et al, 2007; Houston et al., 2010). These founding present that stronger creditor protection increases risk-taking, which is opposing the demand side. Therefore, in this studies, I focus on the demand side, therefore, bank risk-taking is excluded from this study.
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Investor protection laws differ significantly between countries (La Porta et al., 1998), with low investor protection investors can have hardly any protection against managerial behaviour or larger investors. Contrary, investor controls in countries with strong investor protection (La Porta et al., 1998). Shleifer and Vishny (1997) suppose that the effectiveness of creditors depends on the legal rights they have.
Benmelech and Bergman (2011), Acharya et al. (2011) and Cho et al. (2014) found a negative relationship between creditor rights and firms risk-taking. Benmelech and Bergman (2011) found that stronger creditor protection reduces risk-taking and that stronger creditor protection helps airlines to mitigate financial shortfalls and enhance investment to be more efficient and more technologically advanced. Cho et al. (2014) suggest that stronger creditor protection induces managers and shareholders to minimize risk in case of financial distress.
Nevertheless, it is argued that internationally diversified firms are less risky, as international corporate diversification potentially reduces the probability of bankruptcy and therefore the riskiness of the operation (Acharya et al., 2011). Acharya et al. (2011) investigates whether corporations across countries undertake lower risk when creditor rights are stronger and hypothesis that creditor protection has a negative effect on firms use of debt as stronger creditor protection discourages managers to use a large amount of debt because they want to avoid losing control in the case of financial distress. The authors found that stronger creditor rights induce risk-reducing investments in form of diversifying acquisition.
The above discussion proposes that country-level creditor rights reduce risk-taking. Consequently, if the effect of internationalization and risk-taking is positive and the interaction term is negative creditor protection will reduce the positive effects more on taking with the degree of internationalization. If the effect of internationalization and risk-taking is negative and the interaction term is negative creditor protection will increase the negative effects more on risk-taking with the degree of internationalization.
From the discussion above I propose the third hypothesis.
H3a: Risk-taking will increase less with the level of internationalization in countries with stronger creditor protection
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3. Data and measures
3.1. Data
I use Asset4 data on Thomson Reuters Datastream database. The sample contains 4202 firms from 35 countries with total observations of 33,694. I collect data for the 2002-2016 period as firm-level corporate governance score, which is one of my main variables are provided for this period. I exclude from my sample Finance, Insurance and Real Estate industries (from 6000-6799 SIC code) and included Agriculture, Forestry and Fishing, Mining, Construction, Manufacturing, Transportation, Communications, Electric, Gas and Sanitary service, Wholesale Trade, Retail Trade, and Services.
This study does not include firms with missing firm-level corporate governance values and countries with missing country-level creditor protection values as they are my moderator variables. Further, countries with less than 50 observations are also excluded. Additionally, the study utilized the winsorized method to overcome the presence of outliers that can affect the result of this study.
3.2. Measures
3.2.1. Risk Taking
The dependent variable is risk-taking measured by the volatility of firm-level profitability over the three-year overlapping period. Followed the literature (John et al., 2008; Faccio et al., 2011; Boubakri et al., 2013; Koirala et al. 2018) risk-taking is measured as a standard deviation of firm’s return on assets (ROA) which is equal to the ratio of earnings before interest, taxes, depreciation and amortization (EBITDA) to total assets. As riskier projects exhibit higher volatility, earnings-volatility captures the degree of risk-taking in a firm's operations, based on the volatility of the operating earnings.
3.2.2. Degree of Internationalization
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that using FSTS mixes international trade with international investment, the usage of FATA may mitigate this problem. The intent was to use both FSTS and FATA however the lack of data availability FSTS is used only.
3.2.3. Firm-level moderator - Corporate governance
To measure the effect of firm-level corporate governance, Corporate Governance Score will be used, constructed by Thomson Reuters’ Asset4. The score comprised of three different categories. The first category is “Management”, based on 34 different indicators, which measures a company’s commitment and effectiveness towards following best practice corporate governance principles. The second category is “Shareholders”, based on 12 indicators, which measures a company’s effectiveness towards equal treatment of shareholders and the use of anti-takeover devices. The third category is “CSR Strategy”, based on 8 different indicators, which reflects the company’s practice to communicate that it integrates the economic, social and environmental dimensions into its decision making processes. The score takes a value from 0 till 100, 0 being the lowest score on corporate governance and 100 being the highest and most effective score on corporate governance.
3.2.4. Country-level moderator - Creditor rights
To measure country level creditor rights an index first proposed by La Porta et al. (1998) is used. The index measures the legal rights of creditors in bankruptcy. It is formed by adding one when: (1) the country imposes restrictions, such as creditors' consent or minimum dividends, to file for reorganization; (2) secured creditors are able to gain possession of their security once the reorganization petition has been approved (no automatic stay); (3) Equals one if an official appointed by the court, or by the creditors, is responsible for the operation of the business during reorganization, that is, the debtor does not retain the administration of its property pending the resolution of the reorganization (no management stay); (4) secured creditors are ranked first in the distribution of the proceeds that result from the disposition of the assets of a bankrupt firm. The index ranges from 0 to 4. Source: Company Law or Bankruptcy Laws, La Porta et al. (1998) and Djankov et al. (2007).
3.2.5. Control Variables
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role in making investment decisions and large firms are highly likely to take more risk than small firms. To measure the size of the firm, the logarithm of the total assets in US dollar is used (Koirala et al. 2018). To account for capital structure, firms leverage is used. Firms with a higher level of debt may take a lower level of risk since creditors force managers to take less risk (Olibe et al., 2008; Acharya et al, 2011). It is calculated as the book value of the debt-to-assets ratio. ROA is included to control for firm profitability as prior literature reports a relationship between firm profitability and risk (Kwok and Reeb, 2000). It is calculated as a ratio of net income and total assets. CAPEX measures the size of tangible investments and shown to be linked to risk-taking (Koirala et al., 2018). Studies found that firms with higher capital expenditures a firm could contribute to higher earnings volatility, therefore CAPEX is calculated from the ratio of capital expenditures to total assets. Studies found a relationship between firm growth and risk, thus sales growth, which is a percentage change in sales from year t-1 to year t, is included. Additionally, firm growth opportunities are added, following Olibe et al. (2008). Jung and Bansal (2009) found that firm performance is important in predicting risk-taking, therefore I use Tobin’s Q as a measure of firm performance. It is calculated from the total assets minus book value of common equity plus the market value of common equity divides into assets.
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Table 1. Summary table of variables definition
Variable Definition Source
Main variables
Risk-taking (RISK) The standard deviation of ROA for three years overlapping years
John et a. (2008) Degree of Internalization
(DOI)
The ratio of foreign sales to total sales Sullivan (1994) Corporate governance index
(CGOV)
Combines scores of corporate governance Thomson Reuters
Creditor rights index (CPI) Creditor Protection Index La Porta et al. (1998), Djankov et al. (2007)
Control variables
Firm size (FSIZE) The natural logarithm of total assets Acharya et al. (2011), Cho et al. (2014), Koirala et al. (2018) Firm-leverage (FLEV) The ratio of total debt to total assets Kwok and Reeb (2000), Olibe et
al. (2008), Acharya et al. (2011) Firm profitability (ROA) The ratio of net income to assets Kwok and Reeb (2000)
Capital expenditures (CAPEX) The ratio of capital expenditures to total assets
Koirala et al. (2018) Sales growth (SGR) The percentage change in sales from year
t-1 to year t
Acharya et al. (2011) Tobin´s Q (TOBQ) The total assets minus common equity
book value plus common equity market value divided with total assets
Jung and Bansal ( 2009)
Uncertainty avoidance (UAI) Uncertainty avoidance index Hofstede (1980)
4. Empirical Model and Results
4.1. Empirical model
4.1.1. Determining risk-taking internationalization relationship
To test my first hypothesis about the internationalization effects on the firm’s risk-taking I apply the following regression model.
RISK_TAKINGi,t-3, t = α0+α1 DOIi,t + ∑ α control variablesi,t + ∑ δ Countryc + ∑ δ
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Where RISK_TAKINGi,t is a proxy variable for firm risk-taking in corporate
operations of corresponding firm i, at time t. DOIit indicates the internationalization level of
the firm j at time t. Furthermore, I use all the previously listed control variables and I employ country, industry and year fixed effects.
This model should provide a significant association between risk-taking and internationalization relationship for the analysis of the following hypotheses. If the coefficient is significantly positive, I can conclude that the DOI has a positive and significant impact on RISK-TAKING. If the coefficient is significantly negative, I can conclude that the DOI has a negative and significant impact on RISK-TAKING.
4.1.2. Determining the effect of corporate governance
To test my next hypothesis about the effect of corporate governance on internationalization and the risk-taking relationship I apply the following regression model. RISK_TAKINGi,t-3,t = ß0+ß1 DOIi,t + ß2 (DOIi,t x CGOVi) + ß3 CGOVi+ ∑ ß4 control
variablesi,t + ∑ δ Countryc + ∑ δ Industryk + ∑ δ Yeart + ei,t
Where CGOV is a firm-level corporate governance moderator. In the model I include the interaction between DOI and CGOV, also include CGOV of corresponding firm i. Further, I include the previously listed control variables and apply country, industry and year fixed effects.
In order to test H2, I consider the coefficient of the main relationship betweenDOI and RISK_TAIKNG and the coefficients of DOI x CGOV. If both the coefficient is significantly positive I can conclude that CGOV will increase the positive effect of DOI on RISK_TAKING. In contrary, if the coefficient of the main relationship betweenDOI and RISK_TAIKNG is negative and the coefficients of DOI x CGOV is positive, then CGOV will reduce the negative effects on RISK_TAKING together with the DOI.
4.1.3. Determining the effect of creditor rights
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RISK_TAKINGi,t-3,t = γ0+γ1 DOIi,t + γ2 (DOIi,t x CPIc,) + γ3 CPIc + ∑ γ control variablesi,t
+ ∑ δ Industryc + ∑ δ Yeart + ei,t
Where CPI is a country-level creditor protection indicator. In the model I include the interaction between DOI and CPI, also include CPI of corresponding country c. Further, I use the previously listed control and additionally shareholders protection index is used. Moreover, I apply industry and year fixed effects.
In order to test H3, I consider the coefficient of the main relationship betweenDOI and RISK_TAKING and the coefficients of DOI x CPI. If the coefficient betweenDOI and RISK_TAKING is positive and the coefficients of DOI x CPI is negative I can conclude that CPI will reduce the positive effects of DOI on risk-taking. In contrary, if the coefficient of the main relationship betweenDOI and RISK_TAKING and the coefficients of DOI x CGOV are both negative I can conclude that CPI will increase the negative effect of DOI on RISK_TAKING.
4.2. Empirical results
4.2.1. Descriptive statistic
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average score of 75.21, 73.70 and 72.32 respectively. The lowest corporate governance country is Chile, being the only country having lower than 10 on this score, followed by Japan, South Korea, Greece with 11.53, 13.25, 17.84 respectively. The average creditor protection index (CPI) is 2.0046, with only UK, New Zealand and Hong Kong having score 4. The uncertainty index (UAI) on average is 53.94, indicates that the sample countries on average are comfortable with uncertainty. The lowest uncertainty avoidance countries are Singapore, Denmark, Sweden and Hong Kong with 8, 23, 29 and 29 respectively, indicate that these countries are comfortable with uncertainty. The highest score present in Greece, Portugal, Belgium, Poland and Japan with 112, 104, 94, 93 and 92 respectively, indicate that these countries are not comfortable with uncertainty.
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Table 2. Descriptive statistic by countries
Countries TAKING RISK_ DOI CGOV CPI UAI Observations
Australia 0.0449 0.278 0.6137 3 0.51 2,388 Austria 0.0189 0.5782 0.3579 3 0.7 157 Belgium 0.0261 0.4235 0.5036 2 0.94 247 Brazil 0.0295 0.1167 0.2572 1 0.76 503 Canada 0.035 0.37 0.7521 1 0.48 2,239 Chile 0.0166 0.3552 0.0977 2 0.86 139 China 0.0219 0.1138 0.2841 2 0.3 536 Denmark 0.032 0.6455 0.4096 3 0.23 257 Finland 0.0237 0.6427 0.5936 1 0.59 323 Germany 0.0241 0.5983 0.3221 3 0.65 911 Greece 0.025 0.2339 0.1784 1 1.12 173 Hong Kong 0.0224 0.3441 0.3933 4 0.29 1,216 India 0.0261 0.2965 0.3452 2 0.4 506 Indonesia 0.0285 0.1255 0.2335 2 0.48 186 Ireland 0.0225 0.6663 0.6427 1 0.35 148 Israel 0.0299 0.5272 0.3797 3 0.81 91 Italy 0.0202 0.4109 0.4725 2 0.75 407 Japan 0.0181 0.2687 0.1153 2 0.92 4,332 Malaysia 0.0197 0.2729 0.4902 3 0.36 281 Netherlands 0.0225 0.662 0.6428 3 0.53 375 New Zealand 0.0227 0.2465 0.5045 4 0.49 179 Norway 0.0347 0.6569 0.497 2 0.5 285 Philippines 0.0169 0.0869 0.333 1 0.44 101 Poland 0.0375 0.2312 0.2116 1 0.93 126 Portugal 0.016 0.3594 0.5348 1 1.04 106 Singapore 0.0168 0.4344 0.455 3 0.08 428 South Africa 0.0258 0.2668 0.6473 3 0.49 584 South Korea 0.0252 0.2997 0.1325 3 0.85 561 Spain 0.0213 0.4189 0.4744 2 0.86 456 Sweden 0.0269 0.6822 0.4985 1 0.29 554 Switzerland 0.0244 0.6801 0.4636 1 0.58 610 Thailand 0.0267 0.2274 0.48 2 0.64 160 Turkey 0.0219 0.1794 0.2383 2 0.85 128 United Ki d 0.0233 0.4568 0.737 4 0.35 3,405 United States 0.0264 0.305 0.7232 1 0.46 10,596 Average 0.0262 0.3519 0.54 2.0046 0.5394 Total 33,694
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Table 3. Descriptive sample statistic
Variable Observations Mean Std. Dev. Min Max
RISK_TAKING 33,694 0.0262 0.0303 0.0001 0.1923 DOI 33,694 0.3519 0.3386 0.0000 1.0000 CGOV 33,694 0.5400 0.3017 0.0110 0.9878 CPI 33,694 2.0046 1.0992 1.0000 5.0000 FSIZE 33,694 15.3047 1.4674 9.4917 19.9795 FLEV 33,694 0.3675 0.2455 0.0000 1.0000 ROA 33,694 0.0851 0.0894 -0.3690 0.3870 CAPEX 33,694 0.0565 0.0551 0.0000 0.3551 SGR 33,694 0.1105 0.3852 -0.6024 3.7113 TOBQ 33,694 1.8681 1.3221 0.5913 9.1242 UAI 33,694 0.5394 0.2074 0.0800 1.1200
This table includes information on the summary descriptive statistic includes all the variables employed throughout the regression analyses. The dependent variable is RISK_TAKING followed by the main explanatory variable, DOI. Moreover, the moderating variables CGOV and CPI are listed next, followed by control variables. The detailed explanation of each variable can be found in Table 1.
4.2.2. Correlation analysis
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Table 4. Sample correlation
RISK_
TAKING DOI CGOV CPI FSIZE FLEV ROA CAPEX SGR TOBQ UAI
RISK_ TAKING 1 DOI 0.0499* 1 CGOV 0.0244* 0.1292* 1 CPI -0.0139* 0.0795* -0.1267* 1 FSIZE -0.2860* 0.0743* 0.0716* -0.1518* 1 FLEV -0.1316* -0.0635* 0.0657* -0.0534* 0.3161* 1 ROA -0.0970* 0.0318* 0.1008* -0.0455* -0.0248* -0.1338* 1 CAPEX 0.1552* -0.0731* 0.0362* -0.0088 -0.0799* -0.0015 0.0175* 1 SGR 0.1101* -0.0224* -0.0412* 0.0287* -0.1089* -0.0663* 0.0351* 0.1217* 1 TOBQ 0.1310* 0.0165* 0.0330* -0.0465* -0.3187* -0.1906* 0.4506* 0.0291* 0.1446* 1 UAI -0.0609* -0.0859* -0.5344* -0.1591* 0.1320* 0.0034 -0.1052* -0.0317* -0.0523* -0.1310* 1 This table includes information regarding the correlation of the variables employed throughout the regression analyses. The dependent variable is RISK_TAKING followed by the main explanatory variable, DOI. Moreover, the moderating variables CGOV and CPI are listed next, followed by control variables. The asterisk * denotes statistical significance at the 5% level. The detailed explanation of each variable can be found in Table 1.
4.2.3. Regression analysis
To test the first hypothesis that risk-taking increases/decreases with the degree of internationalization, OLS estimation technique on a large panel data set is used with taking into account Year, Industry and Country fixed effects. Table 5. shows the results of the regression, where the dependent variable is firm risk-taking and the independent variable is the degree of internationalization and all the other controls are included.
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increased risk-taking in case of internationalization increase are foreign exchange rate fluctuation, political uncertainty, such as possible changes in tax and accounting rules and complexity are all directly affects MNCs risk-taking decisions.
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minimize risk in case of financial distress. The negative coefficients of uncertainty avoidance (UAI) are insignificant.
Table 5. Regression analysis to test internationalization and risk-taking relationship.
RISK_TAKING
Model 1 Model 2 Model 3 Model 4 Model 5 Model 6 Model 7 Model 8 Model 9
DOI 0.002* 0.002* 0.002* 0.003** 0.003** 0.003** 0.002* 0.007*** 0.007*** [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] FSIZE -0.005*** -0.005*** -0.005*** -0.005*** -0.005*** -0.004*** -0.004*** -0.005*** -0.005*** [0.000] [0.000] [0.000] [0.000] [0.000] [0.000] [0.000] [0.000] [0.000] FLEV 0.002 0.000 -0.000 -0.000 0.000 -0.000 -0.007*** -0.007*** [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] [0.001] ROA -0.030*** -0.032*** -0.032*** -0.049*** -0.050*** -0.059*** -0.059*** [0.005] [0.005] [0.005] [0.005] [0.005] [0.005] [0.005] CAPEX 0.036*** 0.033*** 0.030*** 0.031*** 0.072*** 0.072*** [0.006] [0.006] [0.006] [0.006] [0.006] [0.006] SGR 0.004*** 0.003*** 0.004*** 0.005*** 0.005*** [0.001] [0.001] [0.001] [0.001] [0.001] TOBQ 0.003*** 0.003*** 0.003*** 0.003*** [0.000] [0.000] [0.000] [0.000] CGOV 0.003*** 0.004*** 0.003** [0.001] [0.001] [0.001] CPI -0.002*** -0.002*** [0.000] [0.000] UAI -0.001 [0.002] Constant 0.109*** 0.109*** 0.110*** 0.107*** 0.105*** 0.092*** 0.092*** 0.104*** 0.105*** [0.006] [0.006] [0.006] [0.006] [0.006] [0.006] [0.006] [0.004] [0.004] Industry Dummies Year Dummies Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes
Country Dummies Yes Yes Yes Yes Yes Yes Yes No No
R-squared 0.178 0.178 0.185 0.188 0.191 0.201 0.201 0.149 0.149 Observations 33694 33694 33694 33694 33694 33694 33694 33694 33694 This table includes information regarding the first regression equation of this study. The dependent variable is RISK _TAKING followed by the main explanatory variable, DOI. Moreover, the firm level control variables listed next, followed by the country-level control variables. The asterisks ***, **, and * signify the statistical significance at the 1%, 5%, and 10% levels, respectively.
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including firms size (FSIZE), firm leverage (FLEV), ROA, CAPEX, sales growth (SGR), Tobin's Q (TOBQ), R&D and corporate governance (CGOV).
The results of the regression in the lagged model in Table 6., is only different from Table 5 regarding the firm leverage and corporate governance results. Firstly, firms leverage (FLEV) has gotten insignificant, therefore I cannot conclude that a higher level of leverage will result in lower risk-taking. This opposed Olibe et al. (2008) and Acharya et al. (2011) and does not prove that creditors force managers to take less risk to secure themselves in financial distress. Secondly, the positive and significant coefficients of firm-level corporate Table 6. Regression analysis to test internationalization and risk-taking relationship with lagged values.
RISK_TAKING
Model 1 Model 2 Model 3 Model 4 Model 5 Model 6 Model 7 Model 8 Model 9
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governance (CGOV), has gotten insignificant as well. Therefore I cannot conclude that an increase in CGOV increases risk-taking, opposing the view of John et al. (2008), Faccio et al. (2011), Bruno and Shin (2014) and Koirala et al. (2018) that stronger corporate governance induces risk-taking in the result of the higher corporate governance put more pressure on management discretion.
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Table 7. Moderating effect of firm-level corporate governance. RISK_TAKING
Model 10 Model 11 Model 12
DOI 0.003 0.004* 0.004* [0.002] [0.002] [0.002] CGOV -0.002 0.002* 0.002 [0.002] [0.001] [0.001] DOI_CGOV 0.001 -0.002 -0.002 [0.003] [0.003] [0.003] FSIZE -0.004*** -0.005*** -0.005*** [0.000] [0.000] [0.000] FLEV -0.001 0 0 [0.001] [0.001] [0.001] ROA -0.030*** -0.030*** -0.031*** [0.005] [0.005] [0.005] CAPEX 0.041*** 0.042*** 0.042*** [0.006] [0.007] [0.007] SGR 0.002* 0.002** 0.002** [0.001] [0.001] [0.001] TOBQ 0.002*** 0.002*** 0.002*** [0.000] [0.000] [0.000] CPI -0.001*** -0.001*** [0.000] [0.000] UAI -0.002 [0.002] Constant 0.078*** 0.088*** 0.089*** [0.007] [0.007] [0.007] Industry Dummies Year Dummies Yes Yes Yes Yes Yes Yes
Country Dummies Yes No No
R-squared 0.207 0.197 0.197
Observations 29492 29492 29492
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Table 8. Moderating effect of country-level creditor rights. RISK_TAKING
Model 13 Model 14 Model 15
DOI -0.001 -0.001 -0.001 [0.002] [0.002] [0.002] CPI -0.002*** -0.002*** -0.002*** [0.000] [0.000] [0.000] DOI_CPI 0.002** 0.002** 0.002** [0.001] [0.001] [0.001] FSIZE -0.005*** -0.005*** -0.005*** [0.000] [0.000] [0.000] FLEV 0 0 0 [0.001] [0.001] [0.001] ROA -0.030*** -0.030*** -0.031*** [0.005] [0.005] [0.005] CAPEX 0.042*** 0.042*** 0.042*** [0.007] [0.007] [0.007] SGR 0.002** 0.002** 0.002** [0.001] [0.001] [0.001] TOBQ 0.002*** 0.002*** 0.002*** [0.000] [0.000] [0.000] CGOV 0.002* 0.002* 0.001 [0.001] [0.001] [0.001] UAI -0.002 [0.002] Constant 0.091*** 0.091*** 0.092*** [0.007] [0.007] [0.007] Industry Dummies Year Dummies Yes Yes Yes Yes Yes Yes R-squared 0.197 0.197 0.197 Observations 29492 29492 29492
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5. Conclusion
The aim of this thesis is to investigate whether the degree of internationalization has a significant impact on firm risk-taking. It has been argued that the internationalization is beneficial and that it opens opportunities which then can influence firm risk-taking. The study also examines whether the degree of internationalization has an indirect effect on the firm's risk-taking through a firm-level and a country-level mediator which is the firm-level corporate governance and country-level creditor rights.
The results show that the main relationship between the degree of internationalization and risk-taking is positive, consequently firm risk-taking increase with the level of internationalization. However, these results are against the theory that managers take less-risk when a company is more internationalized in the result of high discretion. Further, theoretical issues discussed in section 2, might be the reason for increased risk-taking in case of internationalization increase are foreign exchange rate fluctuation, political uncertainty, such as possible changes in tax and accounting rules and complexity are all directly affected MNCs risk-taking decisions. However, these results are against the view that internationalization increase management discretion thus management will be able more to act in their own interest and reduce risk-taking.
Secondly, for my second hypothesis, the results are not significant. The hypothesis based on previous findings that firm-level corporate governance should increase risk-taking of firms because of the reduction power of management self-dealing and expropriation of shareholders. Therefore, it has been hypothesized that risk-taking will increase more/ decrease less together with the degree of internationalization and corporate governance. However, in this study, the founding show that corporate governance will reduce the positive effect on risk-taking together with corporate governance. Consequently, either H2a or H2b would not be proven even if my results are statistically significant. Hence, I cannot conclude that corporate governance significantly moderates the relationship between the degree of internationalization and risk-taking.
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hypothesis H3a or H3b that risk-taking will increase less/ decrease more with the degree of internationalization in countries with strong creditor protection. Even though the signs of the moderating coefficients are not as expected the results are statistically significant, the negative coefficients of the degree of internationalization suggest that risk-taking for firms in countries with low creditor rights will decrease with the level of internationalization. Further, the significantly positive moderating coefficients suggest that creditor rights will reduce the negative effect less on risk-taking together with internationalization in countries with strong creditor rights.
The managerial implications of this study contribute to the academic aspect regarding the main relationship between the degree of internationalization and risk-taking. The finding of positive effects implicates that more internationalized firms have to involve more risk to earn high returns. Consequently, considering risk factors such as unfamiliarity with the foreign market, cultural diversity, financial risks in strategic planning is highly relevant in risk-taking decisions. Regarding the second hypothesis, managerial implications are not very substantial as it is not supported with significant evidence. Lastly, this study contributes to add new empirical finding of the moderating country-level creditor protection on the degree of internationalization and risk-taking to the existing literature. Founding, suggest that creditor protection reduce risk-taking but together with internationalization it reduces less, thus management can implicate that the more internationalized the firm is stronger creditor protection will reduce the negative effect less. Therefore internationalization is beneficial for shareholders to reduce strong creditor protection risk-reducing effects.
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