Master Thesis
CULTURAL DIMENSIONS EFFECTS ON RELATION OF
CORPORATE GOVERNANCE AND FIRM RISK TAKING
By Jie Shang S 2654555
MSc International Financial Management Supervisor: Dr. H. Gonenc
Co-Assessor: Dr. A. de Ridder
Date: 9
thJune 2017
Abstract
This thesis answers the research question of “How do cultural dimensions moderate the relationship between corporate governance and firm risk taking?” Firstly, examining the association between corporate governance and firm risk taking.
Secondly, examining how do cultural dimensions (uncertainty avoidance, individualism, power distance and masculinity) moderate this relationship respectively. By analyzing samples of 3813 companies in 48 countries from 2002 to 2014, the results are reported as follow: firstly, corporate governance score is negative related with firm level risk taking; secondly, uncertainty avoidance and masculinity significantly weaken this relationship, as well as individualism strengthen this relationship significantly. The effect of power distance is found may strengthen this relationship, but this results is not supported.
Key words: corporate governance, risk taking, cultural dimensions
JEL Classifications: G30, G31, G34
1. Introduction 1.1 Background
What is corporate governance? Tirole (2001) gives a possible explanation that a good corporate governance is about choosing right managers to maximum the shareholders’
interests. Corporate governance of a company refers to decision making, investment activities. The basic perception of corporate governance is about protecting shareholders’ benefits. However, most of the issues in governance come from the conflicts of shareholders and managers, shareholders want to maximum their interests in any possible way, even take some risky but valuable investments, but managers perhaps think about their private benefits such as career and reputation, prefer to make some conservative decisions. Or perhaps shareholders want to be more conservative on decision making to avoid potential risks, but managers trend to be more liberal about risks. In order to mitigate these conflicts, Duong, Kang and Salter (2015) advance some corporate governance mechanisms, such as ownership structure, compensation regulation and board of directors. Take compensation regulation as an example, some companies make greater efforts on managers’ compensation, trying to link the manager's personal benefits with shareholders’ interests, force manager and shareholders to have common goals of making business. This governance mechanism probably causes two results. On the one hand, compensation (like financial incentives for managers) make corporate governance practice working in a good way, and enhance the quality of operating management (Duong et al., 2015; Kang, Kumar, &
Lee, 2006). On the other hand, some compensations (like stock ownership and stock option) reflect a harm of company’s financial performance, these incentives make managers are less likely to take risks or take extreme risks (Duong et al., 2015; Hayes, Lemmon, & Qiu, 2012; Kim & Lu, 2011). So it is valuable to find out how does corporate governance affects the level of firm risk taking.
Furthermore, as widely known, globalization is a popular and hot topic around world, there is an increasing number of business activities happen in cross-countries. A lot of firms which have international trades will face many issues in corporate management.
For instance, integration is the first difficulty in international alliance and cross-
country mergers and acquisition. Managers and employees may come from different
countries, they have different culture and different experience background, finding the
most effective corporate governance mechanism is imperative. Many researches
provide evidence that national culture may impact corporate governance in different
ways (Duong et al., 2015; Humphries & Whelan, 2017; J. Li & Harrison, 2008a).
Meanwhile, studies of national culture effects on risk taking is also plentiful (Ashraf, Zheng, & Arshad, 2016a; Kreiser, Marino, Dickson, & Weaver, 2010; K. Li, Griffin, Yue, & Zhao, 2013). However, there is rare studies ask the cultural effects on the relation of corporate governance and risk taking. So it is necessary to explore “does this relationship vary in different nations”. In other words, does national culture moderate this relationship?
To answer this question, it is better to understand the following concepts. First of all, what is culture? As Hofstede (1983) mentioned, culture seems like differences in traditional opinions and shared value of people who live in different region. These varieties will be expressed in the way of people thinking about things. Then, what kind of varieties among different cultures? There are four main varieties among countries, uncertainty avoidance, individualism, power distance, and masculinity (Hofstede, 1983). People from high uncertainty avoidance culture tend to be more risk intolerant, they feel uncomfortable when facing unpredicted case. Individualism emphasizes individual rights while collectivism focus on group working. Masculinity advocates personal reward and achievement, in high masculinity, people are less care about interests of other people. Power distance is an important sign of hierarchy, top managers who are from high power distance culture have more authority and rights to make decisions. Each of these cultural distance is possible to change the relationship of corporate governance and risk taking.
To sum up, this thesis is going to answer the following question:
How do four national level cultural differences affect the relationship between corporate governance and firm risk taking?
After empirical analysis of 3813 companies in 48 countries, first finding is corporate governance is negatively associated with risk taking, then it has been figured out that uncertainty avoidance and masculinity weaken this negative effects of corporate governance on risk taking, while individualism strengthen this relation. Power distance may strengthen it as well, but there is no proof is found in this thesis.
1.2 Research design
This thesis is structured as follows. The next part is literature review, which
particularize the existing theory and develop hypothesis. There are two lines in
literature background, the first is to discuss how does corporate governance change
firm risk taking, agency theory, resource dependence theory and upper echelons
theory are expounded. The second is to discuss four cultural dimensions respectively, since there is no direct evidence to support cultural dimensions affect on that relationship, so focusing on cultural dimensions effects on corporate governance or risk taking is a valid approach to develop hypothesis. The third section is methodology, which presents details about data, variables and models. The fourth section is empirical results, using Eviews 9.5 to process data and analyze the outputs from country-level factors, descriptive statistic, correlation analysis and multivariable regression analysis respectively. The final part is conclusion, limitation and potential avenues for further study.
2. Literature Review
2.1 Relationship of corporate governance and firm risk taking
The literature for the relationship between corporate governance and risk taking has been relatively mature, and a number of results have been established. Three theories, which are agency theory, resource dependence theory and upper echelons theory, are widely used in the existing papers, each of them gives a perspective to explain this relationship.
2.1.1 Agency theory perspective
The central theme of agency theory is that managers (agency) may have their own goals of self-interests, that may be discordant with owners’ goals, if they are not monitored, managers probably drag their personal interests to the maximum possible extent by harming owners’ benefits and thus impact the firm risk taking (Huang, Boateng, & Newman, 2016; Jensen & Meckling, 1976). It has been testified that risk is positively associated with financial return (Hoskisson, Chirico, Zyung, & Gambeta, 2017; Jensen & Murphy, 1990), specifically, shareholders give top managers (such as CEO) equity-based rewards may significantly increase CEOs’ risk preference, while decrease the “moral hazard problems” and agency costs (Hoskisson et al., 2017;
O'Connor, Priem, Coombs, & Gilley, 2006). However, other researchers have
opposite opinions, they believed that equity-based rewards should be managed in a
good scale, otherwise, financial compensation can lead a “bad risk” to firm
(Hoskisson et al., 2017). Career consideration is different from financial returns,
managers are not only considering about the interests, but also care about their own
career, for instance, they put a high value of how their working abilities are appraised,
this is because their reputation is closely associated with their decisions and managerial behaviors (Chen, 2015). Chen (2015) indicated that when the high-risk investment is chosen, managers may get higher reputation if the project is successful, that may be perceived by labor market and other employers, thus managers probably get better future working opportunities; if the high-risk project is failed, managers may have a lower reputation. On the contrary, when managers choose a less risky investment, indeed they can get a safe and known return, but they also lose a chance to show their talent and managerial abilities.
In order to eliminate the conflict of interest, many firms use some corporate governance mechanisms such as CEO compensations and board independence. Sila and his colleagues (2016) argued that board of directors is one of the most critical mechanisms, monitoring is a way that board directors keep the boundaries of firm risk taking and mitigate the motivations for managers to incorporate their personal preferences into the decision-making process, thereby protecting shareholder interest (Adams & Ferreira, 2009; Fama & Jensen, 1983; Jensen & Meckling, 1976). Board independence is a crucial element of efficient monitoring inside of the firm. A board, which has an adequate number of independence outsider is less risky than the board, which controlled by dependence insiders, this is because those outsiders attached great importance of strengthen their reputations (Carter, Simkins, & Simpson, 2003).
Similarly, Baysinger and Hoskisson (1990) presented that the advantages of outsiders may negatively related with firm risk taking since they pay more concentration on outcomes. Koerniadi and Tourani-Rad (2012) raised a consistent result in the New Zealand case, they suggest that board independence is “a key characteristic of effective board”. Besides, an independence board is liberal with risky projects, in other words, independence boards courage high-risk investments in order to gain higher profits. In contrary, dependence boards or insider-controlled boards probably prefer low risk projects by considering about their private benefits. Thus, it is reasonable to say that there is a positive relation between board independence and firm risk taking.
Nevertheless, King and Wen (2011) give an inverse finding from shareholder
protection perspective, they believe the better shareholder protection, the greater risk
aversion. Other studies also conclude that lower investment protection, when insiders
have great power in pyramid ownership structure but limited cash flow rights, they
may use their power to shift profits from lower cash flow right place to higher cash
flow right place, which leading a risk-prefer result, this process is so-called “tunneling distortion” (John, Litov, & Yeung, 2008). From this point of view, corporate governance may negatively associate with risk taking.
2.1.2 Resource dependence perspective
Resource dependence theory gives an argument that organizations dependent on both inside and outside resources that they need to operating their activities, the resource is include all types of items such as human resource, physical resource and organizational resource (Hillman, Withers, & Collins, 2009; Voss & Brettel, 2014).
Based on Barney (1991) resource-based view, there are four main characters of resource that can help firm to gain competitive advantage in competition environment, valuable, rare, imperfectly mobile, and non-substitutable (VARN). Board directors also bring plenty of resource both in capital and intangibles. These VARN resources help firm to get favorable situation in international markets. Fernandez and Nieto (2006) proposed a standpoint which is that a firm’s resource endowment is associated with its ownership structure, which may directly impact the corporate strategy and related with the degree of risk aversion. Family ownership has been testified that may facilitate and hinder the VARN resource accumulation, and it may also decrease the internationalization risks due to force family owners to conformity present resource and improve operating efficiency (Miller & Le Breton-Miller, 2005; Miller, Breton!
Miller, & Lester, 2011). Based on the existing literature(Miller & Le Breton-Miller,
2005; Zahra, 2003), family ownership attached highly importance to long-term
operating performance of business activities and its shareholders’ benefits, this
business philosophy push board directors prefer and implement long-term investment,
while internationalization has a noticeable impact on firm’s long-term performance,
this turns out that family ownership companies are highly likely to undertake
internationalization projects, which may even though have high level of risks. From
the information sharing perspective, it has been examined that resource such as
knowledge, skills and experience interconvert within family members is working
more successfully than other kind of ownership structure, eventually, bring
information interchange advantages for family firms in the competition environment
(Craig & Dibrell, 2006). Chen, Hsu and Chang (2014) and Zahra (2003) confirmed
that there are mighty trust and better interaction within family members, this results in
favorable influences of their business operation, also generate to deepen mutual trust between family owners and enhance their confidence of decision making, consequently, promote directors to take risky projects further. Comparing with family ownership structure, bank share ownership structure is kind of lacking resource shared advantages and hindering the degree of firms’ risk taking. Sheard (1994) explored that banks prefer companies take low-risk investments to ensure their loans of other creditors, because these creditors may also augment their own exposure.
Moreover, another part of resource dependence theory is board of directors. Using more outside directors is a way of improving effectiveness of operating management.
Since outside members join and extend board of firm, not only bring more capital, but also enhance reputation of firm, these resources may do better job of securing investors’ interests (Johnson & Greening, 1999). It has been examined that a larger and stronger board positively affect firm risk taking (Pathan, 2009).
2.1.3 Upper echelons perspective
Upper echelons theory illustrates the relationship between top executives’ personal personality and ability such as their cognitive ability, managerial skills as well as their experience and decision-making. It can be assumed that CEO’s choice has a significant effect on company’s business activities (Wang, Holmes, Oh, & Zhu, 2016).
In the research, which did by Wang and Holmes (2016), CEO characteristics such as CEO age is closely associated with firm strategic activities, they believed that compare with younger CEOs, the older CEOs are more risk averse and less likely to take risky investments and innovations. Especially in high competition markets, scientific and technological progress and innovation is the main driving force of enterprise development, younger CEOs perhaps feel more adaptive and comfortable in this case than older CEOs (Wang et al., 2016). Once younger CEOs are bold and energetic, they are more likely to attempt high-risk investments in order to gain higher value returns. Similarly, CEOs’ education background and preceding working experience are also positively related with firms’ strategic actions (Wang et al., 2016).
It is reasonable to assume that when a CEO has good formal education background,
they are more confident with their choices, for instance, most of the MBA programs
involve investment techniques and strategic activities guidance, so that if CEOs have
relevant education experience, they will be inspired to take riskier projects. Besides,
CEO's’ personality also function on firm risk taking. As Hoskisson et al. (2017)
summarized, CEo’s self-evaluation cause a deviation when making decision, that will lead to a risky choice (Hiller & Hambrick, 2005), CEO “narcissism moderates capability cues (e.g., recent performance, social praise) on risk taking” (Chatterjee &
Hambrick, 2011), moreover, CEO hubris is another character will lead to more aggressive strategy of investment on high technology industry (Tang, Li, & Yang, 2015).
H1a: There is a positive relationship between corporate governance and firm risk taking.
H1b: There is a negative relationship between corporate governance and firm risk taking.
2.2 National culture differences adjust the relations between corporate governance and firm risk taking
There are abundant of literature to exploit how national culture differences affect corporate risk taking, but a few of them illustrate the how do the culture factors moderate the relationship of corporate governance and risk taking. Due to the lack of direct evidences, this thesis is going to explain how do cultural dimensions change some of elements in this relation, combining this with H1 to develop hypothesizes. To exploit this question, national cultural framework, which created by Hofstede (G.
Hofstede, 2010; G. H. Hofstede & Hofstede, 2001), this framework includes uncertainty avoidance index (UAI); individualism (IDV); power distance index (PDI) and masculinity (MAS).
2.2.1 Uncertainty avoidance
Uncertainty avoidance (UAI) as an essential factor of cultural framework that affect corporate governance and firm risk taking significantly. Before exploring the effects that caused by UAI, it is necessary to distinguish risk and uncertainty. Generally, risk is seen as a special form of uncertainty. It is remarkable that uncertainty is difficult to be calculated, in the previous studies, there is no significant evidence to show how to calculate the degree of uncertainty in statistical level; in contrary, risk is defined as
“the possibility that something unpleasant will happen.” (Pearsall, 1999), this implies
that risk can be calculated and presented as a percentage rate, uncertainty is going to
be used when the probability is unknown (Wennekers, Thurik, van Stel, &
Noorderhaven, 2007). On the basis research of Hofstede (2001), the managers who are in higher UAI countries are not willing to face potential uncertainty situations easily, besides, they are more likely to avoid uncertain elements, which may cause unpredictable consequence. However, managers who are in low-level uncertainty avoidance countries are reversed. They are more liberal with uncertainty situations. Li and Harrison (2008) investigate how UAI influence corporate governance from board size perspective, they mentioned that higher UAI cause an intense uncomfortable feeling for people, then lead to a stronger willing to seek more resource or information to reduce this discomfort. Since larger group members normally have more resources or information (Jackson, 1992), so, a larger board which may involve more outsiders who have diverse resource, skills and abilities is expected in higher UAI country (Li & Harrison, 2008). However, Chan and Cheung (2012) imply UAI effects on corporate governance from ethical behaviors perspective which provide an opposite view. They propose that managers from higher UAI country more prefer rules and regulations to protect insider’s benefits, but “a good corporate governance practice is a set of guidelines, not a set of laws and regulations that managers must follow” (Chan & Cheung, 2012), this means good corporate governance practice safeguard for outsider’s benefits as well by regulating insider’s behaviors. Due to the lack of formal rules and regulations in corporate governance practices, it is highly likely that managers from higher UAI country do not implement good corporate governance mechanism to regulate their behaviors, they probably use unethical strategy to protect their own interests, such as taking less risky project and investment even it is value-adding for firm and external shareholders (Chan & Cheung, 2012). In addition, Tosi and Greckhamer (2004) explain UAI negatively affect corporate governance from CEO compensation perspective, they believed that the percentage of variable compensation to total compensation can be seen as an indication of CEO’s financial return risk, which is trying to be avoided. In other words, UAI weaken firm risk taking by reducing CEO compensation. By considering all for and against arguments, the hypotheses are developed as follow:
H2a: National level of UAI weaken the relation of corporate governance and firm risk
taking.
H2b: National level of UAI strengthen the relation of corporate governance and firm risk taking.
2.2.2 Individualism
Based on the concept of individualism (IDV) defined by Hofstede (2001), individualism underline the individual efforts and incentive with respect of each person is equal in the organization, but collectivism put group benefits in a high value.
It has been examined from board size perspective by Li and Harrison (2008) that
managers who are in higher IDV countries prefer smaller board size, so they will have
greater say in fewer participants, thus in some extent, may change firm risk taking
level. From CEO compensation view, researchers suggest individualism is positively
associated with CEO compensation, because people from higher IDV country
emphasize individual achievement and rewards (Tosi & Greckhamer, 2004) which
directly affects company risk taking. Moreover, ethical behaviors study provides us
another perspective of looking IDV effects on corporate governance and firm risks
(Chan & Cheung, 2012), the authors believed managers from higher IDV country are
more sensitive and rejective with unethical issues because they highly value
individual rights and fair competition environment, thus people prefer a good
corporate governance practice in higher IDV country. Chui, Titman and Wei (2010)
presented that from psychology perspective, managers are in individualism
environment are normally overconfidence and over optimism. So it is easier to predict
that they are more courageous when they facing risks. Because of this, individualistic
managers are more likely to be involved in risky situation. On contrary, in a lower
IDV country, managers will be more cautious when they are making decisions, since
they need to consider the interests of whole groups rather than thinking about benefits
for themselves. Further studies (Shupp & Williams, 2008) reported that from the risk
preference view, group is less likely to make risky decisions and more risk averse,
whereas individual is opposite, individualistic culture is more risk-tolerant than
collective culture. From the investor protection perspective, in a corporate setting,
governance practices in higher IDV culture countries should be considered to protect
all shareholders’ benefits by increasing information exposure and the extent of
monitoring for public. In contrast, governance practices in lower level of IDV culture,
probably put the insiders’ benefits in the first place, giving more protection for
insiders than outsiders (Griffin, Guedhami, Kwok, Li, & Shao, 2015). By combining this with the investor protection theory, individualism may force the firm risk taking increasing by weaken the insiders’ private benefits.
H3a: National level of individualism strengthen the relation of corporate governance and firm risk-taking.
H3b: National level of individualism weaken the relation of corporate governance and firm risk-taking.
2.2.3 Power distance
In the study of Ashraf, Zheng and Arshad (2016b), they suggested that in higher power distance (PDI) culture, individuals are less likely to participate in company’s decision-making process, that may lead to a conservative investment behavior.
However, individuals in low PDI counties are more willing to take part in decision- making and cause a relative more choices in strategic decision-making. As Shane (1993) mentioned, in high PDI score countries, communications between different hierarchy are weak. The researcher also indicated that decision-makers who are from higher power distance countries are less likely to take part in risky investments.
Moreover, if combining PDI with board independence argument, it is likely that in high PDI cultures, independence of the directors would be seen as less important because of the acceptance and expectation of a concentration of power. However, Li and Harrison (2008b) found that in high PDI countries, there were more outside board members in order to lessen subordinate contributions in a formal corporate structure.
Requiring board independence would not be important in high PDI culture, but it is
necessary for firms which are in lower PDI countries. Recently, Mihet (2013) finds
that high PDI cultures have lower risk-taking in corporate firms because people from
different power hierarchy may feel less threatened and easier to trust others. Chan and
Cheung (2012) provide a consistent finding that people from lower PDI culture are
more sensitive with unethical behaviors since they expect equality among individuals,
so a good corporate governance practice is more likely to be implemented in lower
PDI country. According to the relationship between corporate governance and firm
risk taking, the fourth hypothesis is developed:
H4a: National level of power distance weaken the relation of corporate governance and firm risk-taking.
H4b: National level of power distance strengthen the relation of corporate governance and firm risk-taking.
2.2.4 Masculinity
The previous literatures gave a common view of gender effects in decision-making process. Powell and Ansic (1997) implies “women are more cautious, less confident, less aggressive, easier to persuade, and have inferior leadership and problem solving abilities when making decisions under risk compared to men”. A similar result is provided by Meier-Pesti and Penz (2008), they confirmed that risk taking is an important character of masculinity. Females are more risk averse than males. As Ashraf et.al (2016) explained, “higher masculinity implies higher assertiveness, competitiveness and achievement in dominant cultural values”. It can be predicted that people from higher masculinity countries prefer risky choices in order to create value and showing-off. Chan and Cheung (2012) find similar result from ethical behaviors view, they put forward a good corporate governance practice is negatively related with MAS, this is because people from higher MAS country are less sensitive with unethical issues since they pay more attention to personal interests, may not care about fairness or equality, that may cause potential risks increasing. Conversely, study which did by Tosi and Greckhamer (2004) shows that in higher MAS culture, unequal payment among individuals is more common because people regard financial incentives and rewards as the most important things in their career, so financial compensation as a corporate governance mechanism is positively affected by the level of MAS. Take an example, in the study of incentive compensation (Jansen, Merchant,
& Van der Stede, Wim A, 2009), researchers found that people in the United States (which is a high masculinity country) and in Netherlands (a lower masculinity country) have different attitude with financial compensations. In the US, people tend to improve quality of individual jobs, in order to gain more financial compensation;
however, in the Netherlands, financial compensation is less motivated to push people improving, because Dutch people are more concentrated on group working.
Combining together these arguments with H1, it can be assumed that in some extent,
MAS may influence the level of firm’s risk taking by changing firm governance level.
Although masculinity impact corporate governance in both positive and negative ways, while its effect on risk taking is more simplex. Most of previous literatures claim that masculinity is positively related with firm risk taking. This is because manager who is from higher masculinity culture shows up a desperate desire of personal achievement, and a strong willing to take risky projects (Ashraf et al., 2016;
Kreiser et al., 2010). Therefore, the following hypotheses are created from both ways:
H5a: National level of masculinity may strengthen the relation of corporate governance and firm risk-taking.
H5b: National level of masculinity may weaken the relation of corporate governance and firm risk-taking.
3. Methodology
This section details the samples background, data resources, regression model and measurements of variables. This thesis will employ the quantitative analysis to explore the national level cultural distance effects on corporate governance and risk taking. To examine how national culture differences this relation, it is necessary to use multiple linear regression models.
3.1 Data
The data resources of dependent variable, independent variables and control variables are Datastream database and Assets 4 database in the period 2002–2014. Cultural dimensions scores are from Geert Hofstede website. There are 3813 companies from 48 countries, including both developed countries and developing countries, to analyze different cultural dimensions effects on corporate governance and risk taking in each countries. Most of industries such as agriculture, apparel, computer, entertainment, retail and food etc. are involved in this empirical analysis, financial industry is not included.
3.2 Model
According to aforementioned hypotheses and concepts of variables, the multivariable
regression models are built as following:
Model of Hypothesis 1:
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3.3 Variables
The level of corporate governance is measured by corporate governance score which comes from ASSET4. Risk taking (RT), as a dependent variable, is measured by a
“standard deviation of the ratio operating income to book value of total assets over 3 years overlapping periods in the sample period” (An, Huang, Li, & Xiao, 2014), because the larger this “standard deviation” is, the higher uncertainty may happen. In other words, a large standard deviation respects that there is a big chance to get more gain or more loss. Corporate governance level is measured by corporate governance score (CGS). The definition of CGS from ASSET4 include following components:
board functions, board structure, compensation policy, vision and strategy and shareholder rights. Following existing research of cultural distance and firm risk- taking (Mihet, 2013), four cultural dimensions of national cultural framework that carries out by Hofstede (Hofstede, 2010; Hofstede & Hofstede, 2001) are used to measure national level of cultural distance.
Cultural dimensions Motivated by Mihet (2013), four dimensions, uncertainty
avoidance index (UAI); individualism vs. collectivism (IDV), power distance index
(PDI) and masculinity (MAS) are going to be used. Although Hofstede (2001) and
Hofstede et al. (2010) have expanded cultural dimensions with long-term orientation
and indulgence, this thesis focus on the initial and most representative four
dimensions. The score in every dimension is ranged from 0 to 100, and each of those score represent a “relative position” with other countries, that means the culture dimension score is not an absolute value (Ashraf et al., 2016).
There are concepts explanations of four cultural dimensions according to Hofstede (2010). As aforementioned in literatures, PDI implicate the degree of the less powerful individuals in the society feel about whether it is equal or unequal for every person. Higher degree of PDI indicate that people in this society are in hierarchical order, whereas in lower PDI degree country people may do efforts for equal opportunity and equal position. UAI implicate the degree of members in this country feel uncomfortable of unpredictable things and ambiguous things, higher UAI score represent that people in this country is less tolerated for unknown things which may happen in the future, lower UAI score is the opposite, it shows people are more open for uncertain things. IDV measures the association of individuals in each country. In other words, individual is going to think about “I” or “we”. In higher IDV score society, each member focus on their own development and reward, but in lower IDV score, people focus on the interests of the whole group. MAS is the degree of personal preference of self-confidence, individual achievement. The competition of country is positively related with MAS score, that means the when MAS is higher, the competition is fiercer.
Control variables The variables are concluded to control firm level financial situations. This thesis is going to use natural logarithm stock market capitalization (+,-./0121.034) as wealth level of outstanding shares of firm. Leverage is ratio of the sum of book value in total long term debt and short term debt to book value of total assets. Capex is the ratio of capital expenditures to book value of total assets.
Firm size is another indicator of availability of a firm, it is measured by natural logarithm of total assets. ROA is the ratio of net income to total assets. TobinQ, which is the ratio of total market value to total assets, is an indicator of whether the market value of firm is over than replacement costs. If Tobin Q is greater than 1, market value is greater than replacement costs, indicating that firm create value to the society, on the contrary, firm do not create value for society. Cash flow is calculated by the ratio of the sum of net income and depreciation to book value of total assets.
Annual beta is estimated coefficient from OLS regression of daily firm stock return
against daily local market return for each firm in each year. Year and industry are dummy variable. Time period is from 2002 to 2014, the first dummy-year is if year is 2003, if others, dummy-year is 0, and so on. Dummy-industry is setting based on sic- 2 digit, if Sic-2 digit is (1,9), dummy-industry is 1, others dummy-industry is 0. If Sic-2 digit is (10,19), dummy-industry is 1, others dummy-industry is 0, and so on.
There are 12 dummy-year variables and 7 dummy-industry variables in the models, these dummies are intent to put year and industry effects include in models.
4. Empirical results 4.1 Descriptive statistics.
Country-level comparison (Table 1). Comparing country level variables in different countries, we can see that corporate governance score is higher in most developed countries, Canada (0.7450), United States (0.7309), United Kingdom (0.7290) and Netherlands (0.6488) are the top four countries, South Africa is the the only one developing country in the top 15 countries. It is should be noticed that Germany and Japan as two developed countries are not included in top class, Germany (0.3066) is 31st and Japan (0.1170) is 44th. Peru (0.055), Poland (0.0488), Australia (0.0453) and Saudi Arabia (0.0383) are the top 4 countries of Risk taking score. However, the top countries of corporate governance score are not in the top class of risk taking score, for instance, United Kingdom (0.0236) is 33rd, Netherlands (0.0236) is 34th, France (0.0159) is 46th. In cultural dimensions’ aspects, all of the top 10 countries of PDI are developing countries, such as Malaysia (100), Saudi Arabia (95) and Philippines (94), etc. Most of developed countries such as Denmark (18), New Zealand (22), Sweden (31), Norway (31) and United Kingdom (35), etc. are in the bottom of Table 2.
However, IDV is the other way around, IDV in the most of developed countries are
higher than developing countries, United Kingdom is 89, Australia is 90 and United
States is 91, none of the top 10 countries is developing. In UAI, it is interesting to see
that Portugal (99) is the 2nd highest UAI country with a lower risk taking score, but
Peru as the highest risk taking country is also in the top UAI countries class, this is
inconsistent with theory that country with higher UAI is normally risk averse. In
MAS, Japan (95), Hungary (88), Austria (79), Italy (79), Mexico (69), China (66),
Germany (66) are in the top class, as while as Chile (28), Finland (26), Denmark (16),
Netherlands (14), Norway (8) and Sweden (5) are in the bottom.
Table 1: Sample statistics
This table reports the mean value of country-level variables (include moderators) in different countries. The sample period is from 2002 to 2014.
Mean value of variables in sample countries
PDI IDV MAS UAI CGS RT
Australia 36 90 61 51 0,6129 0,0453
Austria 11 55 79 70 0,3322 0,0203
Belgium 65 75 54 94 0,4749 0,0277
Brazil 69 38 49 76 0,2542 0,0291
Canada 39 80 52 48 0,7450 0,0354
Chile 63 23 28 86 0,0812 0,0193
China 80 20 66 30 0,2575 0,0239
Colombia 67 13 64 80 0,4402 0,0252
Czech Republic 57 58 57 74 0,3913 0,0247
Denmark 18 74 16 23 0,3729 0,0331
Egypt, Arab Rep. 70 25 45 80 0,0882 0,0244
Finland 33 63 26 59 0,5732 0,0263
France 68 71 43 86 0,5276 0,0159
Germany 35 67 66 65 0,3066 0,0261
Greece 60 35 57 100 0,1728 0,0250
Hong Kong SAR, China 68 25 57 29 0,3369 0,0237
Hungary 46 80 88 82 0,4676 0,0194
India 77 48 56 40 0,3189 0,0287
Indonesia 78 14 46 48 0,2158 0,0314
Ireland 28 70 68 35 0,6124 0,0230
Israel 13 54 47 81 0,3848 0,0329
Italy 50 76 70 75 0,4393 0,0226
Japan 54 46 95 92 0,1170 0,0190
Korea, Rep. 60 18 39 85 0,1362 0,0259
Kuwait 90 25 40 80 0,1235 0,0141
Luxembourg 40 60 50 70 0,4232 0,0252
Malaysia 100 26 50 36 0,4433 0,0216
Mexico 81 30 69 82 0,1519 0,0246
Morocco 70 46 53 68 0,0936 0,0238
Netherlands 38 80 14 53 0,6488 0,0236
New Zealand 22 79 58 49 0,6059 0,0277
Norway 31 69 8 50 0,5035 0,0360
Peru 64 16 42 87 0,3412 0,0555
Philippines 94 32 64 44 0,1900 0,0176
Poland 68 60 64 93 0,2079 0,0488
Portugal 63 27 31 99 0,4940 0,0174
Russian Federation 93 39 36 95 0,2679 0,0345
Saudi Arabia 95 25 60 80 0,0587 0,0383
Singapore 74 20 48 8 0,4170 0,0171
South Africa 49 65 63 49 0,6220 0,0270
Spain 57 51 42 86 0,4303 0,0253
Sweden 31 71 5 29 0,5103 0,0281
Switzerland 34 68 70 58 0,4513 0,0257
Thailand 64 20 34 64 0,4654 0,0282
Turkey 66 37 45 85 0,2262 0,0224
United Arab Emirates 90 25 50 80 0,2871 0,0104
United Kingdom 35 89 66 35 0,7290 0,0236
United States 40 91 62 46 0,7309 0,0277
All variables statistical descriptive (Table 2) Before regression analysis, this thesis is going to analyze descriptive statistics of all variables in Models. Table 3 shows the mean, median, minimum, maximum, standard deviation and observations of each variables by using Eviews 9.5. The maximum and minimum value of firm level risk taking score are 0.1915, 0.0001, respectively, this means there is a huge difference of risk taking among different firms. Similarly, maximum and minimum of corporate governance scores are 0.9878 and 0.0112, respectively, that also imply a great difference among firms.
Table 2: Descriptive statistics
This table reports the mean, median, maximum, minimum, standard deviation and observations of variables.
The sample period is from 2002 to 2014.
In order to avoid multi-collinearity in multivariable regression model, I use mean centered values of CGS, UAI, IDV, PDI and MAS(Aiken, West, & Reno, 1991;
Iacobucci, Schneider, Popovich, & Bakamitsos, 2016) in the rest of analysis.
Table 3: Correlation matrix
*significant at 10% level
**significant at 5% level
***significant at 1%
Correlation analysis (Table 3) Further analysis starts from the correlation coefficient table through Eviews 9.5. The correlation between dependent variable, independent variable, control variables and moderators are showed in Table 4. Firstly, from the correlation coefficient (0.0301***) between corporate governance score and firm risk taking, it shows that CGS is positively and significantly related with risk-taking, which indicate that firm implies better corporate governance may result in higher risk preference. Secondly, in the view of correlation coefficients between control variables and risk taking, except Cash flow and Lnstockmakcap, others are in some extent significantly affect firm risk taking. In addition, every control variable has significant effects on CGS. Thirdly, moderators are significantly effect on both firm risk-taking and corporate governance score. UAI, MAS and PDI are negatively influence CGS or risk taking, this means each of UAI, MAS and PDI is higher, each of the risk taking level and corporate governance score is lower. IDV positively affect both firm risk taking and CGS, this implies that firm from higher IDV country prefer higher risk taking and better corporate governance. All of coefficients of moderators are significant at the 1% level.
4.2 Multivariate regression results
In order to explore the association between corporate governance and risk taking and how do four cultural dimensions adjust this relationship, the aforementioned hypothesis 1 to 5 is going to be tested by using the Ordinary Least Squares (OLS) through Eview 9.5. Table 4 presents the results of hypothesis 1.
Regression of control variables (include moderators).
In the whole view of model 1, most of control variables (moderators) are significantly influence firm risk taking in 1% significant level, except UAI and PDI. UAI is significant in 5%, PDI is insignificant. Besides, the Adjusted R square is 0.1632, and F-statistic is significant in 1% level, so the control variables and moderators are chosen in this model have good ability to explain firm risk taking level.
Regression of corporate governance score and risk taking.
Model 2 is built as adding CGS on the basis of Model 1, to test the first hypothesis.
As can be seen in the result of Model 2 regression, CGS is negatively associated with
risk taking, this value is significant in 1% level. Adjusted R square is 0.1636 and F-
statistic is significant in 1% level. This is, corporate governance decreases the level of firm risk taking. The result supports the hypothesis 1b. The possible reasons for this negative relationship are, firstly, previous literatures provide that executive
Table 4: Corporate governance score and risk taking
This table reports Hypothesis 1. The sample period is from 2002 to 2014. All regressions include year and industry fixed effects. Standard errors reported in parentheses. The symbols ***, **, * denote statistical significance at the 1%, 5%, and 10% levels, respectively.
H1 Model 1 Model 2
C 0.0860*** 0.0829***
(0.0030) (0.0031)
LEVERAGE (-0.0053)*** -0.0053***
(0.0008) (0.0008)
CAPEX 0.0472*** 0.0475***
(0.0035) (0.0035)
FIRM_SIZE (-0.0044)*** -0.0043***
(0.0001) (0.0001)
ROA (-0.0496)*** -0.0492***
(0.0031) (0.0031)
TOBINQ 0.0024*** 0.0024***
(0.0002) (0.0002)
CASH_FLOW 0.0236*** 0.0235***
(0.0025) (0.0025)
ANNUAL_BETA 0.0130*** 0.0131***
(0.0005) (0.0005)
LNSTOCKMC (-0.0009)*** -0.0008**
(0.0004) (0.0004)
UAI_MEAN 2.74e-05** 1.73e-05
(1.16e-05) (1.19 e-05)
IDV_MEAN 0.0001*** 0.0001***
(1.16e-05) (1.39 e-05)
PDI_MEAN -2e-07 5.9e-06
(1.81e-05) (1.82 e-05)
MAS_MEAN -0.0001*** -0.0001***
1.05 e-05 (1.07 e-05)
CGS_MEAN -0.0033***
(0.0009)
Year Yes Yes
Industry Yes Yes
Adj R square 0,1632 0,1636
F-statistic 1675,753 1628,481
Prob(F-statistic) 0.000000 0.000000
N. of Observations 26474 26474
compensation take away the incentives of manager to do risky projects. Secondly, managers prefer to be freedom in their operating activities, in a firm with weaker corporate governance mechanism, managers are more freely to make arbitrary decisions, these kind of decisions are more variability in company financial performance, which lead to a higher risk (Adams, Almeida, & Ferreira, 2005; Jiraporn, Chatjuthamard, Tong, & Kim, 2015). Furthermore, according to agency theory, managers favor lower risk investments to protect their own benefits and career (Jensen & Ruback, 1983; King & Wen, 2011), but better shareholder protection cause a stronger risk avoidance. Besides, better shareholder rights lead to a negative attitude of other shareholders, for instance, labor union, creditors to decrease managerial risk taking (King & Wen, 2011; Morck & Nakamura, 1999).
H2: UAI effect on the relationship of corporate governance and risk taking
To test how does UAI impact the relation of CGS and risk taking, Model of H2 is built as adding interactive variable of CGS and UAI in Model of H1. Looking at Table 5, the correlation coefficient of CGS*UAI is 0.0001, which means this interactive factor of corporate governance score and UAI is positively related to firm risk taking, and it is significant at 1% level. This is in line with the hypothesis 2a, propose that uncertainty avoidance weaken the relationship of corporate governance and risk taking. In other words, in higher UAI countries, the negative association between corporate governance and risk taking is growing less intensity than in lower UAI countries. In order to clarify the effect of UAI on H1b, this thesis is going to use linear graph to explain it. Take Graph 1 as an example, the steps of drawing this graph as following:
Step 1, based on Model 3 and correlation coefficients of regression output, the equation is:
!
"#$%&'(%#)*= 0.0805 − 0.005323435673 + 0.0475;6<3= − 0.0043>?5@&A?B3
− 0.04825D6 + 0.0023EDF?GH + 0.0231;6Aℎ&>2DK
+ 0.01316GGL62&F3E6 − 0.00082GAED;M@6M;6< + 0.00004NOP + 0.0001PQR − 0.00000476TQP − 0.0001UOV − 0.0031WXV + 0.0001WXV ∗ NOP + Z#
Step 2, according to the equation above, using mean value of each variable, except Risk taking, CGS, CGS*UAI and UAI, the further equation is:
!
"#$%&'(%#)*= 0.0278 + 0.00004NOP − 0.0031WXV + 0.0001WXV ∗ NOP&
Table 5 Cultural dimensions effects on H1
This table reports Hypothesis 2,3,4,5. The sample period is from 2002 to 2014. All regressions include year and industry fixed effects. Standard errors reported in parentheses. The symbols ***, **, * denote statistical significance at the 1%, 5%, and 10% levels, respectively.
H2 H3 H4 H5
C 0.0805*** 0.0797*** 0.0797*** 0.0797*** 0.0791***
(0.0030) (0.0030) (0.0030) (0.0030) (0.0030)
LEVERAGE -0.0053*** -0.0053*** -0.0053*** -0.0055*** -0.0055***
(0.0008) (0.0008) (0.0008) (0.0008) (0.0008)
CAPEX 0.0475*** 0.0476*** 0.0477*** 0.0475*** 0.0471***
(0.0035) (0.0035) (0.0035) (0.0035) (0.0035)
FIRM_SIZE -0.0043*** -0.0043*** -0.0043*** -0.0043*** -0.0042***
(0.0001) (0.0001) (0.0001) (0.0001) (0.0001)
ROA -0.0482*** -0.0484*** -0.0490*** -0.0489*** -0.0480***
(0.0031) (0.0031) (0.0031) (0.0031) (0.0031)
TOBINQ 0.0023*** 0.0024*** 0.0024*** 0.0023*** 0.0023***
(0.0002) (0.0002) (0.0002) (0.0002) (0.0002)
CASH_FLOW 0.0231*** 0.0231*** 0.0234*** 0.0231*** 0.0228***
(0.0025) (0.0025) (0.0025) (0.0025) (0.0025)
ANNUAL_BETA 0.0131*** 0.0131*** 0.0130*** 0.0131*** 0.0133***
(0.0005) (0.0005) (0.0005) (0.0005) (0.0005)
LNSTOCKMC -0.0008** -0.0008** -0.0008** -0.0007** -0.0006
(0.0004) (0.0004) (0.0004) (0.0004) (0.0004)
UAI_MEAN 3.77e-05*** 1.72e-05 1.83e-05 2.86e-05** 0.0001***
(1.34 e-05) (1.19 e-05) (1.20 e-05) (1.23 e-05) (1.42 e-05)
IDV_MEAN 0.0001*** 0.0001*** 0.0001*** 0.0001*** 0.0001***
(1.40 e-05) (1.42 e-05) (1.39 e-05) (1.41 e-05) (1.50 e-05)
PDI_MEAN -4.76e-06 7.52e-06 3.56e-06 -3.5e-06 -4.22e-05**
(1.85 e-05) (1.82 e-05) (1.94 e-05) (1.84 e-05) (2.10 e-05) MAS_MEAN -0.0001*** -0.0001*** -0.0001*** -0.0001*** -0.0001***
(1.14 e-05) (1.09 e-05) (1.08 e-05) (1.26 e-05) (1.32 e-05) CGS_MEAN -0.0031*** -0.0034*** -0.0033*** -0.0029*** -0.0027***
(0.0009) (0.0009) (0.0009) (0.0009) (0.0009)
CGS_MEAN*UAI_MEAN 0.0001*** 0.0001**
(3.85 e-05) (3.87 e-05)
CGS_MEAN*IDV_MEAN -0.0001** -0.0002***
(3.23 e-05) (4.71 e-05)
CGS_MEAN*PDI_MEAN -1.8e-05 -0.0002***
(4.86 e-05) (7.02 e-05)
CGS_MEAN*MAS_MEAN 0.0001*** 0.0001***
(3.71 e-05) (3.84 e-05)
Year Yes Yes Yes Yes Yes
Industry Yes Yes Yes Yes Yes
Adj R square 0.1634 0.1632 0.1631 0.1634 0.1640
F-statistic 1625.427 1623.297 1621.669 1625.883 1494.25
Prob(F-statistic) 0.000000 0.000000 0.000000 0.000000 0.000000
N. of Observations 26474 26474 26474 26474 26474
