Trade off theory versus pecking order theory evidence from the construction and real estate industry in vietnam

Dissertation submitted in partial fulfillment of the Requirement for the MSc in Finance FINANCE DISSERTATION ON TRADE OFF THEORY VERSUS PECKING ORDER THEORY: EVIDENCE FROM THE CONSTRUCTION AND REAL ESTATE INDUSTRY IN VIETNAM NGUYEN THU HUONG ID No: 21071797 Intake Supervisor: Dr Nguyen Quynh Tho September 2022 Tai ngay!!! Ban co the xoa dong chu nay!!! 17014129176581000000 Acknowledgments First of all, I would like to express my gratitude to Dr Nguyen Quynh Tho – a thoughtful supervisor who opened up to a lot of wonderful recommendations and patiently guided me throughout the process of making this dissertation I couldn’t have finished this research properly without your insights so once again, thank you very much for your supervision Second of all, I would like to express my appreciation to the members and staff of ISB and MSc in Finance UWE-BAV programme for their enthusiastic and tireless support throughout the entire course I wish all of you the best of luck and more success to the programme in the future Last but not least, I want to thank my family and friends, who have always been ny my side to support me I will never forget what you have done for me and I hope we can continue to share a lot of amazing moments together i Executive Summary The dissertation investigates empirical evidence of trade off and pecking order theory based on determinants of capital structure Using data of 234 listed construction firms and 82 listed real estate firms in Vietnam from 2012-2021, an estimation of pooled OLS, pooled OLS with fixed effects and random effects indicates a significant relationship between capital structure and the selected factors as a whole, but there are similarities and differences between industries While capital structure in the previous year has a positive and significant impact on capital structure in the current year, firm profitability has a negative and significant impact on the debt ratio The size of the firm also has a positive and significant effect on capital structure in both industries, but depends on the method of estimation Firm growth matters only to capital structure of construction firms in a direct relationship, while firm tangibility matters only to capital structure of real estate firms in an inverse relationship The statistical results also indicate a higher acceptance of hypotheses regarding the pecking order theory, but trade off theory is proved to be essential as well and both theories are needed to explain the choice of debt and equity It is expected that the outcomes of this research will be useful to many subjects including managers, lenders, authorities and academics ii Table of Contents Acknowledgments i Executive Summary ii Table of Contents iii List of Abbreviations List of Figures List of Tables Chapter 1: Introduction 1.1 Research Motivation 1.2 Research Design Chapter 2: Literature Review 2.1 Capital Structure Theories 2.1.1 Initial approaches 2.1.2 Modigliani & Miller (M&M) theorem 10 2.1.3 Financial distress, bankruptcy and agency theory 13 2.1.4 Trade off and pecking order theory 14 2.1.5 Signalling and market timing theory 16 2.2 Empirical evidence of trade off vs pecking order theory 16 2.2.1 Empirical evidence on Vietnamese firms 16 2.2.2 Empirical evidence on non-Vietnamese firms 19 Chapter 3: Methodology 22 Chapter 4: Results and Discussion 27 4.1 The construction industry in Vietnam 27 4.1.1 Descriptive statistics and correlation matrix 27 iii 4.1.2 Regression outcomes 28 4.1.3 Hypothesis testing 30 4.2 The real estate industry in Vietnam 32 4.2.1 Descriptive statistics and correlation Matrix 32 4.2.2 Regression outcomes 33 4.2.3 Hypothesis testing 36 4.3 Comparison and contrast 38 Chapter 5: Conclusion and Recommendation 40 References 42 iv List of Abbreviations Bil d.f FDI FEM GDP GMM GSOVN HOSE HNX J-prob LSDVC MOF M&M NAICS NDTS NPV OLS PRD Prob PSI SME stat Std Dev Sum Sq Dev REM VARS VBMA WACC Billion Degree of Freedom Foreign Direct Investment Fixed Effect Model Gross Domestic Product Generalized Method of Moments General Statistics Office of Vietnam Ho Chi Minh City Stock Exchange Hanoi Stock Exchange Jarque-Bera Probability Least Square Dummy Variable Corrected Ministry of Finance Modigliani & Miller North American Industry Classification System Non Debt Tax Shield Net Present Value Ordinary Least Square Program for Recovery and Development Probability PetroVietnam Securities Incorporated Small and Medium-sized Enterprises Statistics Standard Deviation Sum Squared Deviation Random Effect Model Vietnam Association Of Realtors Vietnam Bond Market Association Weighted-Average Cost of Capital List of Figures Number 1.1 1.2 1.3 1.4 2.1 2.2 2.3 Name GDP growth and inflation of Vietnam – Medium-term projections Real GDP growth and the contribution of construction and real estate industry in Vietnam – quarterly Program for Recovery and Development – Capital Distribution (%) Corporate Bond Issuance Value – Classified by Industry (Bil VND) M&M (1958) proposition I and II M&M (1963) – with tax Trade off theory – Optimal Capital Structure Page 11 12 15 List of Tables Number 2.1 3.1 4.1 4.2 4.3 4.4 4.5 4.6 4.7 4.8 4.9 4.10 4.11 4.12 4.13 Name Summary of selected empirical research regarding trade off vs pecking order theory topic Predictions on the empirical results Descriptive Statistics – The construction industry in Vietnam Correlation Matrix – The construction industry in Vietnam Regression outcomes – The construction industry in Vietnam Fixed/Random Effect Testing – The construction industry in Vietnam The Heteroscedasticity Test – The construction industry in Vietnam Robust regression outcomes using White cross-section (period cluster) – The construction industry in Vietnam Descriptive Statistics – The real estate industry in Vietnam Correlation Matrix – The real estate industry in Vietnam Regression outcomes – The real estate industry in Vietnam Fixed/Random Effects Testing – The real estate industry in Vietnam The Heteroscedasticity Test – The real estate industry in Vietnam Robust regression outcomes using White cross-section (period cluster) – The real estate industry in Vietnam Robust regression outcomes using White period (crosssection cluster) – The real estate industry in Vietnam Page 20-22 25 27 27 28-29 29 29 30 32 32 33-34 34 34 35 36 Chapter 1: Introduction 1.1 Research Motivation Before the COVID-19 pandemic, Vietnam has witnessed a robust economic growth, a stability in price and a low public debt ratio for a prolonged period, owing to prudent policies from the authorities Additionally, the banking industry was also in a relatively strong position at the time, while external buffers of the country were boosted by strong FDI and trade flows Although the pandemic led to a disruption in the global economy, prudent policies including containing measures once again proved to be successful and made Vietnam the regional top-performing economy in 2020 Nevertheless, the inevitable outbreak in April 2021 resulted in a historical contraction in Vietnamese economic activity in the 3rd quarter and a total real GDP growth of only 2.6% in 2021 Entering 2022, Vietnam is expected to have a strong recovery of approximately 6% in economic growth as the remarkable vaccination rollout from 2021 will continue to support the activity normalization and the implementation of Program for Recovery and Development (PRD) by the government is already underway (IMF, 2022) It can be seen from figure 1.1 that the output of the Vietnamese economy is projected to grow even higher in 2023 and remains stable in the medium term However, inflation of Vietnam is forecasted to double in 2022 and remains high in the following years since it has recently emerged from the global supply chain disruptions and the rising commodity prices Figure 1.1: GDP growth and inflation of Vietnam – Medium-term projections 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 2018 2019 2020 2021 2022E Real GDP growth (%) 2023E 2024E 2025E 2026E 2027E Average CPI (%) Sources: IMF (2022) It is also expected that the social-economic recovery program during the 2022-2023 period, including tax reduction, land rental free relief and preferential loans, will have a positive impact on the development of the construction and real estate industries (Yen, 2022) It can be seen from figure 1.2 that after a dramatic decline in the 3rd quarter of 2021 as a consequence of the COVID-19 outbreak within the country, both industries bounced back significantly in the 4th quarter of 2021 and continue the growing trend in the first half of 2022 Figure 1.2: Real GDP growth and the contribution of construction and real estate industry in Vietnam – quarterly 15.00 10.00 5.00 (5.00) (10.00) (15.00) Real GDP growth (%) From Construction (%) From Real Estate (%) Source: GSOVN – Monthly Report from 2019 to 2022 As for the construction industry in Vietnam, the first quarter of 2022 witnessed a rapid climb in the price of construction materials including steel, coal and wood, owing to the fact that the conflict between Russia and Ukraine led to the disruption of the global supply chain Despite these difficulties, it is pointed out that there are many opportunities for the industry to continue its recovery trend in the remainder of 2022 and thrive in the future First, the flow of FDI is expected to increase in the last months of 2022 and the disbursed capital will be a very important source for construction this year Second, the urbanization process in Vietnam is relatively faster than other countries in South East Asia but the urban population is still relatively low compared to other nations in the region, thus the demand for housing, commercial buildings and urban infrastructure will promote the growth of the construction industry Thirdly, in addition to the other benefits from the PRD (figure 1.3), it is also emphasized that more than 30% of the public capital will be invested in medium-term infrastructure projects for 2021-2025 and even for shortterm projects in 2022-2023 that complete legal documents early (PSI, 2022) Figure 1.3: Program for Recovery and Development – Capital Distribution (%) 32.74 0% 20% 11.35 40% 13.26 18.45 60% 14.73 80% 100% Infrastructure development Medical facilities upgrade Social security Support cooperatives, businesses, households business Anti-epidemic medical supplies Taxes, fees, charges reduction Telecommunications and internet infrastructure development Technological innovation, science and technology business incubation Other Policy Source: Resolution No 43/2022/QH15 – PSI (2022) As for the real estate industry in Vietnam, credit tightening is stated to be an obvious sign from the authorities, in terms of both bank loans and corporate bonds At the end of 1st quarter, real estate credit increased only 2.24% since the beginning of 2022 and much slower than total credit increase of 5% Although it can be seen from figure 1.4 that corporate bonds of the real estate industry in Vietnam account for the majority of issuance value in the last years (only after the banking industry), there hasn’t been any bond issuance from any real estate companies in April 2022, not to mention a dramatic cancel in the bond issuance event of more than 10,000 billion VND from Tan Hoang Minh Group earlier this year In the second half of 2022, there is still room for development, especially in the industrial real estate segment as the government issued Decree 35/2022/ND-CP at the end of May 2022 on management of the economic industrial zone “Tech giants” including Apple or Samsung decided to build production plants and other facilities for expansion in Vietnam is just one of many examples that support a positive outlook