The Determinants of Borrowing in the Case of the Newly
Exchange-Listed Firms in Romania: When Budget
Constraints and Adverse Selection meet Cronyism
Calin Valsan
Associate Professor of Finance
Williams School of Business and Economics
Bishop’s University
Lennoxville, Quebec, J1M 1R1
(819) 822-9600/2448
cvalsan@ubishops.ca
Objective
Re-evaluate:
• Budget constraints
• Determinants of corporate borrowing
Background
Communism collapsed in December 1989
Issues of transition:
•
•
•
•
•
•
Price liberalization
Price stability
Budget constraints & market discipline
Privatization
Foreign investment
EU enlargement
More background…
For the better part of the 1990s, the government was not able to
impose enduring financial discipline.
Contributing factors:
•
•
•
•
The massive “capital restitution” of the early 1990
Fear of popular backlash
The implicit bailout clause [Colombo (2001)]
MEBOs [Valsan (1999)]
Previous research: Polish firms
Pinto et al. (1993), Pinto and Wijnbergen (1994), and Wijnbergen
(1997):
Initially negative, the relation between firm profitability and new borrowing
appears to be reversing, suggesting that banks decreased lending to
distressed firms
Bonin and Leven (2000):
Banks’ ability to act as a conduit for financial discipline is somewhat limited
Previous research: Romanian firms (i)
Perotti and Carare (1996):
Observation: A negative correlation between profitability is no proof of
poor lending quality:
- Leverage is demand driven for good firms and supply driven for financially distressed firms.
- Pecking order theories
Findings:
The correlation between new lending and bank arrears is fading,
The correlation between new lending and trade arrears is getting stronger
Previous research: Romanian firms (ii)
Carare, Claessens, and Perotti (1999), Djanikov and Ilayperuma
(1997) and Djanikov (1999):
Focus:
Financial isolation program & correlation between new lending and
arrears.
Findings:
(i) The correlation between new loans and arrears is fading
(ii) Banks now refinance doubtful receivables and wage arrears.
(iii) Firms under financial isolation face softer budget constraints.
Current contribution
Re-assess the implementation of financial discipline, focusing on
privatized & exchange-listed firms
Expand the analysis of borrowing determinants to include other factors,
such as financing needs and ownership structure
Data
About 580 companies traded on the Bucharest Stock Exchange and
RASDAQ between 1997 and 1998. (provided by Comisia Nationala a
Valorilor Mobiliare)
Table1. Sample statistics
Mean
Total debt ratio
Median
Minimum
Maximum
Standard
deviation
1997
19%
11.5%
0
170%
23%
1998
18%
12%
0
200%
24%
Total long-term
debt ratio
1997
0.4%
0
0
23%
14%
1998
0.1%
0
0
23%
13%
Profit margin
1997
9.1
7.5%
-36%
41%
13%
1998
9.6%
9.8%
-35%
38%
11.75%
Number of
employees
1997
472
145
1
8,623
946
1998
441
123
1
8,491
927
Dividend payout
ratio
1997
22%
0
0
100%
33%
1998
23.6%
0
0
100%
31%
Number of
stakeholders per
firm
1997
1.56
1
1
21
1.22
1998
1.66
1
1
22
1.29
Methodology
NEWB=a0 + a1EMPL + a2DEF + + a3ARR + a4PRF + a5DUMPAS + a6DUMX + ΣaiDUMST + e
NEWB
EMPL
DEF
PRF
ARR
DUMPAS
DUMST
DUMX
= new borrowing,
= number of employees,
= flow of funds deficit,
= the ratio of before interest and tax earnings to net income,
= total arrears,
= dummy variable equal to one if MEBO,
= dummy variables controlling for the three main economic sectors,
= dummy variable equal to one if stake owned by Romanian nationals.
Definitions: Flow of funds deficit
Shyam-Sunder and Myers (1999):
DEF = DIV + CAPX + ΔNWC + CRPMT - OCF
Where:
DEF
DIV
CAPX
ΔNWC
CRPMT
OCF
= funds flow deficit,
= dividend payments,
= capital expenditures,
= net increase in net working capital,
= interest payments and redemption of debt,
= operating cash flow
Definitions: Arrears
ARR = BANKARR + TRADEARR + WAGEARR +TAXARR
Where:
ARR
BANKARR
TRADEARR
WAGEARR
TAXARR
= total arrears,
= bank arrears,
= inter-company trade arrears,
= wage and pension plan contributions arrears,
= tax arrears, including corporate income tax & VAT.
Table 2. Regression results
Total new
borrowing
Total new borrowing
(restricted: A)
Total new borrowing
(restricted: B)
-0.1
-0.1
-0.11
0.56***
0.545***
0.563***
DEF
-0.432***
-0.435***
-0.433***
PRF
-0.016
-0.017
-0.02
ARR
-0.126***
-0.127***
-0.133***
DUMPAS
-0.012
-
-
DUMX
0.065**
-
-
SECT 1
-0.01
-0.02
-0.07
SECT 2
-0.07**
-0.07**
-0.7**
-
-
0.054*
R2
0.554
0.5438
0.5473
Adjusted R2
0.5477
0.539
0.5417
F-value
88.3***
113.5***
98.48***
Intercept
EMPL
DUMOWNSTR
Findings
(1) The firms in the sample are on average medium sized, with a very concentrated
ownership; the typical stake is about 30%-60% of the total number of common shares.
(2) The overwhelming majority of these firms are profitable (even before correcting for
possible understated profit margins), but pay very little dividend.
(3) The overwhelming majority of these firms exhibit very low levels of debt. Most of the
debt is represented by short-term loans.
(4) New borrowing is inversely related to the need for funds, as measured by the flow of
funds deficit.
(5) New borrowing is inversely related to all types of arrears; firms falling behind in
paying their wages, taxes, payables, or bank debt are less likely to obtain new credit.
(6) Firms owned by Romanian nationals and their families are more likely to borrow,
while the opposite is true of firms owned by managers and employees
(7) Firms in services and transportation are more likely to borrow than firms in
agriculture, constructions, and manufacturing.
Table 3. Crosstabs for dichotomous variables: Loan guarantees
vs. ownership structure (expected count in brackets)
Panel A. Credit guarantees and Romanian nationals
Dummy for stakeholder type
Dummy for
credit
guarantee
1: Romanian
national
0: Any other
stakeholder
Total
1: credit
guarantee
105
(93.7)
84
(95.3)
189
0: no credit
guarantee
68
(79.3)
92
(80.7)
160
176
173
349
Total
Pearson Chi-square: 5.9**
Table 3. Crosstabs for dichotomous variables: Loan guarantees
vs. ownership structure (expected count in brackets)
Panel B. Credit guarantees and MEBOs
Dummy for stakeholder type
1: MEBO
Dummy for
credit
guarantee
0: Any other
stakeholder
Total
1: credit
guarantee
9
(12)
180
(177)
189
0: no credit
guarantee
13
(10)
147
(150)
160
22
327
349
Total
Pearson Chi-square: 1.5
More findings…
(8) Loan guarantees/facilities tend to be associated with equity stakes
in firms owned by Romanian nationals and their families...
…this is not consistent with:
- Corporate governance and agency costs [Jensen and Meckling
(1976), Jensen (1986), Shleifer and Vishny (1997)].
- Nationalist sentiment hypothesis
Alternative conjecture: Political cronyism
The majority of Romanian individual stakeholders are:
•
•
•
Political insiders
Former administrators
Political campaign contributors (1996 elections)
Big picture
Two-tier system:
• State owned corporations: still facing soft budget constraints
• Privatized & exchange-listed firms: subject to market discipline
EU update
Romania’s accession to the EU will not take place before 2007, at the
earliest
Issues: Fully functioning market economy?