Impact of capital structure on firms performance evidence from vietnamese listed companies

An unbalanced panel of 97 companies are studied in this paper and report that a firm’s capital structure was found to have a significant and negative impact on the firm’s performance mea

MINISTRY OF EDUCATION AND TRAINING UNIVERSITY OF ECONOMICS HO CHI MINH CITY

- -NGUYỄN THỊ HỒNG LOAN

IMPACT OF CAPITAL STRUCTURE ON FIRM’S PERFORMANCE EVIDENCE FROM

VIETNAMESE LISTED COMPANIES

Subject: Master of Business Administration Code: 60.34.01.02

MASTER THESIS OF BUSINESS ADMINISTRATION

TPHCM - 2012

Abstract:

Although over the last decades many studies have been conducted to examine the impact

of Capital Structure on Firm’s Performance, but the report results are mixed and the question of capital structure’s impact on performance still holds well and empirical study continues, especially in an emergency market like Vietnam where the financial imbalance occurs in almost business To answer this question, this study examines the impact of capital structure on corporate performance in Ho Chi Minh stock exchange, in which we control the effect of firm’s size, firm’s age, industrial sectors and ownership in the period 2007-2011

At first the research results show that Vietnamese firms are using an unbalance financial leverage with a big amount of debt while state controlled use more debt than non state controlled firm and heavy industry uses more debt than light industry and the difference

is significant These results are consistent with theories

An unbalanced panel of 97 companies are studied in this paper and report that a firm’s capital structure was found to have a significant and negative impact on the firm’s performance measures in the accounting measures and negative but insignificant in the market measure – Tobin’s Q Therefore, it is recommended that Vietnamese firms can reduce their debt ratio in order to increase profitability

Control variables: Firm’s age, size, industrial, ownership show mixed results of relationship with firm’s performance, it may significant or not but with the same trend as the theories

Key works: Capital structure, Debt Ratio, Firm’s performance, ROE, ROA, Tobin’s Q,

Gross Profit Margin, Firm’s Age, Firm’s Size, Owner-ship, Different Industries

Statement of original authorship

I declare that this research project is my own work It is submitted in partial fulfillment of the requirements for the degree of Master of Business at Institute School of Business, University of Economics It has not been submitted before for any degree or examination

in any other University I further declare that I have obtained the necessary authorization and consent to carry out this research

Acknowledgments

First and most importantly, I would like to thank my family especially my beloved husband for their love, support and patience from the beginning of the course to the end I could not have made it without them

Secondly I would like to express my all respects and appreciation to Ms Pham Thi Thu Tra my supervisor for her invaluable support, advice and instructions Having her as a supervisor greatly assisted in getting to this research done

I would also like to thank Mr Nguyen Dinh Tho, who exerts every effort in guiding me

as well as ISB students to implement research

I would like to thank all my colleagues in VCSC, for supporting me in getting data for the research

I also thank to my ISB classmate, for their kindly support and assistance during this last year

Last but not least, I would thank management, the faculty and all the staff at ISB for what they have done to support me as well as my classmate during the course

Ho Chi Minh City, January 1st, 2013

Nguyen Thi Hong Loan

Table of Contents

Abstract: 1

Statement of original authorship 2

Acknowledgments 3

List of tables 6

List of Figures: 6

Abbreviations 7

1 Introduction: 8

1.1 Research Background: 8

1.2 Research objective 10

1.3 Research questions: 10

1.4 Outline of the report 10

2 Literature review 11

2.1 Vietnam Economic overview: 11

2.2 Theory about Capital structure and Firm’s Performance 13

2.2.1 Modigliani and Miller’s theory: 13

2.2.2 Trade-off theory 13

2.2.3 Pecking order theory 14

2.2.4 The information asymmetry and signaling theory: 15

2.3 The impact of firm’s characteristics: 16

2.3.1 Firm’s Age 16

2.3.2 Firm Size 17

2.3.3 Ownership 17

2.3.4 Different industrial sectors 18

2.4 Empirical evidences 19

2.5 Hypotheses development: 21

3 Research methodology 21

3.1 Data collection: 21

3.2 Variable of research: 22

3.2.1 Capital Structure (Independence Variable) 22

3.2.2 Firm’s performance (Dependence variable) 22

3.2.3 Control variable: 24

3.3 Regression Method 24

3.4 Model of study: 25

3.5 Conceptual framework: 26

4 Results and Discussions 27

4.1 Descriptive Statistics 27

4.2 Regression 32

5 Conclusions: 34

5.1 Conclusions: 34

5.2 Implication 35

5.3 Limitations and recommendations 35

Bibliography 37

Appendix 40

Appendix A: Final sample selection 40

Appendix B: DR - GPM regression analysis result 45

Appendix C: DR - ROE regression analysis result 47

Appendix D: DR - ROA regression analysis result 49

Appendix E: DR - Tobin’s Q regression analysis result 51

List of tables

Table 1: Summary statistics of the explanatory Variables, 2007-2011 27 Table 2: Correlation Matrix of the Explanatory Variables, during 2007-2011 30 Table 3: Correlation Matrix of the Explanatory Variables of Heavy industry during 2007-

2011 30 Table 4: Correlation Matrix of the Explanatory Variables of Light industry during 2007-

2011 30 Table 5: Correlation Matrix of the Explanatory Variables of state- controlled Company during 2007-2011 31 Table 6: Correlation Matrix of the Explanatory Variables of non state-controlled

Company during 2007-2011 31 Table 7: Impact of Capital structure on manufacturing firm’s performance 32

List of Figures:

Figure 1: Total debt to asset in different industrial factor 12 Figure 2: The explanatory variable of time, 2007-2009 29

Abbreviations

GPM: Gross Profit Margin

ROE: Return on Equity

ROA: Return on Assets

EPS: Earning per Share

DR: Debt ratio

HSX: Hochiminh Stock Exchange

HNX: Hanoi stock Exchange

RE: Random-effects model

FE: Fixed-effects model

SMEs: Small and medium-size enterprises

1 Introduction:

1.1 Research Background:

Capital structure decisions play a pivotal role in maximizing the performance of firm and its valve Capital structure involves the decision about the combination of the various source of funds, a firm uses to finance its operations and capital investments These sources include the use of long term debt finance, short term debt finance called debt financing, preferred stock and common stock also called equity financing

Modigliani and Miller (1958) were the first authors who developed capital structure theory which suggest that in the perfect capital market financing strategies do not affect the value of the firm, but later they argue that firm value can be increased by changing the capital structure because of tax advantage of debts (Modigliani and Miller, 1963) In recent decades the capital structure has become one of the most interesting issues in the corporate finance literature Since then, many researcher followed Modigliani and Miller’s path to develop new theory on debt policy of firms However, these attentions led to develop two main capital structure theories: the static trade-off theory and the pecking-order theory

According to the static trade-off theory, an optimal capital structure exists for firm that can be reached by conducting a balance between benefits (interest tax shields) and the cost of financial distress (bankruptcy and agency costs) of debts (Myers and Majluf, 1984) Rajan and Zingales, 1995; Wald, 1999; Shyam-Sunder and Myers, 1999; Booth et al., 2001; Fama and French, 2002; Huang and Song, 2006; Tang and Jang, 2007; Karadeniz et al., 2009 and Chakraborty, 2010) Using this optimal capital structure, the value of the firm could be increased due to its lowest cost of capital (Tang and Jang, 2007; Karadeniz et al., 2009)

Myers and Majluf (1984) developed the pecking order theory as an alternative to the static trade-off theory Pecking order theory, in contrast to static trade-off theory, assumes that there is no an optimal capital structure for a firm According to this theory,

since there is an asymmetric information between managers and investors, therefore to minimize this asymmetric information firms prefer to finance using retained earnings, debt and equity respectively (Myers, 1984; Myers and Majluf, 1984; Rajan and Zingales, 1995; Wald, 1999; Booth et al., 2001; Fama and French, 2002; Huang and Song, 2006; Tang and Jang, 2007; Karadeniz et al., 2009; Chakraborty, 2010)

Although over the last decades many studies have been conducted to examine the superiority of pecking order theory compare to static trade-off theory, but the reported results are controversial Fama and French (2002) revealed that none of these theories would be rejected Furthermore, Myers (2003) argues that the efficiency of capital structure theories is based on conditions which are different from one firm to another (Huang and Song, 2006)

The theories show that the use of financial leverage to grow faster, bringing in higher profits for shareholders is required However, in Vietnam, the financial imbalance occurs

in a lot of business in the past years, when the economy fell into difficulties As Son (2012) said, the debt-to-equity ratio of local firms is as much as 120%, versus the regional average of 45% This is an alarming figure; a ratio of over 60% already poses risk of bankruptcy if the market developments are unfavorable The question is whether the increase of debt influences the financial performance of the business?

As my knowledge, only several such studies have dealt in Vietnam Of these, San (2002) focused on a single industry sector (tourism) in a single locality (ThuaThien Hue Province), whilst Nguyen and Ramachandran (2006) focused on small and medium-size enterprises (SMEs) only By contrast, Vu (2003) analyzed companies listed the main stock exchange Although they are far less numerous than unlisted companies (most of the latter are SMEs), listed companies account for a larger share of economic activity Therefore, it is important to explore the relationship between capital structure and firm performance in Vietnamese market

1.2 Research objective

This study aims at examining the relation between Capital Structure which is indicated by Total debt ratio and the manufacturing Firm’s Performance; including Gross profit margin (GPM), Return on Assets (ROA), Return on Equity (ROE) and Tobin’s Q over the period 2007-2011 in Hochiminh Stock Exchange (HSX) Moreover, I will examine some other factors which have influences on this relationship such as: Firm’s age, Size, Ownership and Different industries

So the main objective of this research report is:

- To examine the nature of relationship between capital structure and firm performance of listed companies in Vietnam

- To evaluate different impacts of capital structure on firm performance with the different firm’s characteristic

1.3 Research questions:

This study seeks to provide answers to these questions:

1 What is the impact of capital structure on firm performance?

2 Is there any different impact of capital structure to firm performance in the firm with different characteristic?

1.4 Outline of the report

This research will be comprises of 5 parts:

- Introduction: introduce research background, research problem, research

objective and research question

- Literature reviews: introduce the Vietnam economic overview and review

theories as well as empirical evident which concern with research to develop the research hypothesis

- Research methodology: introduces research variables and provides general idea

of research process include: method to collect and analyses data, introduces and reports the research process together with the analyzed results of pilot survey

- Result and discussion, this part reports the analysis results of panel data as well

as discusses the result finding and connection with theory

- Conclusion, to conclude the research finding, includes implication and gives

research limitation as well as provides some further recommendation

2 Literature review

2.1 Vietnam Economic overview:

After implementing the “Doi Moi” (Reform Policy) in 1986, Vietnam implemented many reform policies such as equitizatizing the state controlled companies, reforming the banking system, liberalizing the interest rate, establishing stock markets and opening the economy to foreign investors Many laws also have been newly created or revised in order to support companies in such new environment Although the financial environment of the listed companies in Vietnam has improved because of the economic reform, many problems remain need to be solved First, in many equitized state controlled companies, the government remains as a controlling shareholder and still has a strong impact on the firm’s activities These companies may have more advantages than other companies (International Finance Corporation, 2010) Second, although the functions of the state bank (central bank) and commercial banks are separated, and the interest rates are liberalized, the five big state controlled or state-controlled commercial banks lend more than half of the domestic demand Thus, compared with the other companies, state-controlled companies may have a priority access to bank loans; such loans do not necessarily consider economic rationality (Akiba, 2010)

During the hot economy development, the company was borrowing massively from many different sources So now, the weighted average debt-to-equity ratio in book value gleaned from the second quarter financial statements of 647 non-financial companies listed on the two bourses of Vietnam is among the world’s highest, up to 1.53 This ratio

is so high compared to other economies, both developed and emerging For example, the ratio of the U.S listed companies was 1.2 in 2011 and Chinese firms 1.06 Vietnamese

businesses have increased financial leverage since 2007 Their debt ratios were already at high levels in the early 2000s The ratios of accounts payable to equity of 114 companies listed on the Hochiminh Stock Exchange averaged out at 1.2 in 2007 (Thanh, 2012) In this report Thanh also cited the Q2 financial statements of listed firms showing that construction and real estate are those suffering the highest ratios of debt to equity, at above 2.0 Non-financial companies have an average ratio of 153%, energy 144% and consumption goods 80%, the lowest Remarkably, the ratio of State groups and corporations reaches over 1.73, higher than the average 1.5 of listed companies in general

Figure 1: Total debt to asset in different industrial factor

Sharing Thanh’s view, Son (2012) said “The financial weakness of Vietnamese companies is alarming.” The debt-to-equity ratio of local firms is as much as 120%, versus the regional average of 45% This is an alarming figure; a ratio of over 60% already poses risk of bankruptcy if the market developments are unfavorable (Son, 2012)

Consumer(42) Agricultural processing(51)

Serivces(71) Technology & communication(24)

Industrial(71) Pharmaceuticals & medical equipment(16)

Raw material(62) Energy(43) Non-financial listed company(647)

Construction & real estate(267)

80 105 119 126 134 135 139 144 153

207

2.2 Theory about Capital structure and Firm’s Performance

Modigliani and Miller (1958) is a natural starting point for an analytical understanding of capital structure All research that have followed study various forms of deviations from their idealized setting with fully symmetrical information, no taxes, no bankruptcy costs, exogenous cash-flows, and efficient markets in all assets Myers (1984) defines the two main competing theoretical directions; “Trade-off theory” and “Pecking order theory”

2.2.1 Modigliani and Miller’s theory:

Since Modigliani and Miller published their seminal paper in 1958, capital structure has generated great interest among financial researchers They argued that in efficient markets the debt-equity choice is irrelevant to the value of the firm and benefits of using debts will compensate with decrease of companies stock Prior to MM theory, conventional perspective believed that using financial leverage increases company’s value In this respect, there is an optimized capital structure that minimizes capital costs

In a subsequent paper, Modigliani and Miller (1963) eased the conditions and showed that under capital market imperfection where interest expenses are tax deductible, firm value will increase with higher financial leverage Models based on impact of tax, suggest that profitable companies should have more debts these firms have more need for tax management in corporation’s profit However, increasing debt results in an increased probability of bankruptcy Hence according to this theory, the firm with higher debt should perform better, but that level of debt has to balance bankruptcy costs and benefits

of debt finance

Trade-off theory assumes that firms optimally balance the costs of debt, e.g., distress risk and bankruptcy frictions with the benefits, typically tax savings, but also management discipline and optimal scale Firms are expected to move towards target leverage and does their marginal financing accordingly, although time their transactions due to costs of adjustments In a dynamic setting, firms see their targets develop over time and consider

today’s adjustments through new financing or payouts also in light expected future optimal leverage

Agency issues are relevant in any financing discussion and the seminal paper is Jensen and Meckling (1976) They develop a theory based on agency costs in structures with separation between ownership and management and as well as outside lenders They postulate that conflicts between shareholders and managers occur since managers hold less than one hundred percent of the residual claim In these case, because ownership (shareholders) and control (management) of firms lies with different people, managers are not motivated to apply maximum efforts and are more interested in personal gains or policies that suit their own interests and thus results in the loss of value for the firm and harm shareholders interests Therefore, debt finance act as a controlling tool to restrict the opportunistic behavior for personal gain by managers It reduces the free cash flows with the firm by paying fixed interest payments and forces managers to avoid negative investments and work in the interest of shareholders So according to this theory, the firm with higher debt should perform better

Agency problems are one of the reasons why the pecking order theory predicts that outside capital is more expensive

2.2.3 Pecking order theory

Pecking order theory predicts that due to the information asymmetry between a firm and outside investors regarding the actual value of both current operations and future prospects, outside capital will always be relatively costly compared to internal funds and equity more so than debt Outside investors will, as described by Akerlof (1970), require

a compensation for their expected informational disadvantage

Myers and Majluf (1984) argue that information asymmetry will lead to a mispricing of a firm’s equity in the marketplace Aware of the resulting dilution of current shareholders’ actual values, firms may not raise new equity even for projects with positive net present values, often denoted the “under-investment problem” They predict that firms will

choose to finance new investments in ways which minimize this problem and thus avoid new equity issues

Myers (1984) extends this theory into a ’pecking order’ theory of financing This theory predicts that the existence of asymmetric information will lead a firm to firstly use retained earnings and funds from current owners, then risk-free debt and finally risky debt before eventually raising new equity from outside investors

A development in this area, Halov and Heider (2004), takes a more sophisticated approach to the issue of asymmetric information by separating uncertainty from risk The paper is primarily empirical, but novel in that they find that firms prefer to issue equity when risk matters relatively more and debt otherwise Their argument is that by issuing equity rather than debt, risky firms avoid the adverse selection costs of debt Berger and Udell (1998) apply a related approach to the issue of credit availability for small- and medium sized companies, discussing how the opaqueness of firms impacts the relevant lending assessment technology

Pecking order theory predicts marginal financing flows, but has no views as to overall optimal capital structure It is hard not to assume that extremely high or low leverage will have to impact marginal financing, but this is outside the pecking order theory

The information asymmetry theory of capital structure is credited to the work of Ross (1977) He posits that firm managers possess more information about the future prospects of the firm than the market Therefore management’s choice of capital structure may provide the market with signals of a firm’s future prospects Increasing leverage would signal to the market that a firm’s managers are confident about servicing the interest charge, and are hence confident about the future prospects of the firm Therefore an increase in leverage would increase the value of the firm since investors would deem this to be a positive signal of the size and stability of future cash-flows

Fama and French (1988) disagreed with this notion, arguing that more profitable firms tend to have lower levels of debt In this case increasing debt would signal poor future prospects for the firm, since future earnings will be impacted negatively due to cash flow being used to service debt, reducing the amount or money available to fund future development Raju and Roy (2000) establish that the value of available information contributing to firm profitability is higher for larger companies and is higher for Different industries sectors where there is intense competition Therefore the release of credible information by managers affects the performance of a firm and has an impact on the perceptions held by the external market about a firm

2.3 The impact of firm’s characteristics:

A number of firm level characteristics have been identified in previous empirical research Recent papers on dynamic capital structure include Fischer, Heinkel, and Zechner (1989), Goldstein, Ju and Leland (2001) and Hennessy and Whited (2005) Most

of this literature assumes a firm scale and that product markets and cash flows as exogenous, disregarding any interaction between leverage and operations An example of the opposite is Maksimovic (1988) who shows that a firm’s debt capacity is a function of Different industries and firm characteristics, e.g elasticity of demand and discount rate

In this research I review impact of firm’s size, firm’s age, different industries and ownership

Age could actually help firms become more efficient Over time, firms discover what they are good at and learn how to do things better (Arrow, 1962; Jovanovic, 1982; Ericson and Pakes, 1995) They specialize and find ways to standardize, coordinate, and speed up their production processes, as well as to reduce costs and improve quality The relevant literature goes back to Smith and Ricardo Old age, however, may also make knowledge, abilities, and skills obsolete and induce organizational decay (Agarwal and Gort, 1996 and 2002) One possible reason is that success induces firms to codify their approach through organization and processes, a regulation that can become capillary over

time This behavior seems increasingly to entangle firms in structural and process-related rigidities that are difficult to discard (Leonard-Barton, 1992)and that could cause companies to succumb to Schumpeter’s “perennial gale of creative destruction.”

It could also be that older firms are incapable of solving collective action problems As

in the case of nations (Olson, 1982), firms might increasingly become organizations of rent-seeking factions as they get older On balance, it is therefore unclear whether aging helps firms prosper or whether it dooms them

From the above contributions, a firm’s age is expected to have a positive influence on a firm’s performance

2.3.2 Firm Size

The size of a firm affects performance in many ways Key features of a large firm are its diverse capabilities, the abilities to exploit economies of scale and scope and the formalization of procedures These characteristics, by making the implementation of operations more effective, allow larger firms to generate superior performance relative to smaller firms (Penrose, 1959) Alternative points of view suggest that size is correlated with market power (Shepherd, 1986), and along with market power x-inefficiencies are developed, leading to relatively inferior performance (Leibenstein, 1976) Titman and Wessels (1988) assert that larger firms are more diversified and are therefore less susceptible to bankruptcy than smaller firms Rajan and Zingales (1995) also hold that there is a positive relationship between firm size and leverage Although, theory is equivocal on the precise relationship between size and performance, it’s more likely a firm’s size is expected to have a positive influence on firm’s performance

There are many listed companies of which the government became the controlling stockholder and influenced company activities after state-owned companies were State controlled These companies are defined as state-controlled companies, which have closer relations with state-owned banks than other companies and state-owned commercial

banks may not be normal external creditors of state-controlled companies, and their monitoring activities may be less stringent toward state-controlled companies These accords with Nguyen and Ramachandran (2006), who pointed out those state-owned enterprises in Vietnam tend to receive more favorable treatment from state-owned commercial banks which represent the bulk of the banking sector

With regard to government ownership influences on firm performance, literature suggests that governments are likely to pay attention to political goals such as output prices and employment highlighting the fact that government ownership are nonprofit-maximizing owners and are therefore expected to be low performers in terms of conventional performance measures (Laffont and Tirole 1993; Shleifer and Vishny 1997) From these arguments, it’s expected a different relationship between capital structure and performance of the firm with difference ownership

2.3.4 Different industrial sectors

Schwartz and Aronson’s (1967) research concludes that the capital structures of firms in different industries are different from each other They infer that capital structure in an Different industries is influenced by operational risk and asset structure They also indicate that the capital structure in specific Different industries sectors over time is dynamic, given a firm’s pursuit to maximize value Barclay, Smith, and Watts (1995) find that leverage is high for regulated firms and firms in low-tech industries, and is low

in high-tech industries Jensen and Meckling (1976) state that industries in which opportunities for asset distribution are more limited, will have higher levels of debt Therefore, the industries sector is expected to have an impact on corporate performance also

By contrast, several scholars revealed a negative relation between capital structure and firm performance In this line, Kester (1986) found a negative relation between capital structure and performance (profitability) in the US and Japan Similar results were reported by Friend and Lang (1988), Titman and Wessels (1988) from the US firms, Rajan and Zingales (1995) in the G-7 countries, Wald (1999) in the developed countries

In addition, Wiwattanakantang (1999) reported a negative relation between book and market leverage and ROA from 270 Thai firms Huang and Song (2006) found a negative correlation between leverage and performance (earnings before interest and tax to total assets) in the China firms Booth et al (2001), Chiang et al (2002), Chen (2004), Deesomsak et al (2004), Karadeniz et al (2009) indicate the same findings Research Pratheepkanth (2011) analyzed the capital structure and its impact on financial performance capacity during 2005 to 2009 of Business companies in Sri Lanka The results shown the relationship between the capital structure and financial performance is negative One of the most recent, Abul (2012) in his study of the engineering sector of Pakistan show that financial leverage has a significantly negative relationship with the firm performance measured by Return on Assets (ROA), Gross Profit Margin (GPM) and Tobin’s Q The relationship between financial leverage and firm performance measured

by the return on equity (ROE) is negative but insignificant Asset size has an insignificant relationship with the firm performance measured by ROA and GPM but negative and significant relationship exists with Tobin’s Q

Several studies show either poor or no statistical relation between capital structure and performance (Tang and Jang, 2007; Ebaid, 2009) Ebaid (2009) investigates the impact of capital structure choice on performance of 64 firms from 1997 to 2005 in the Egyptian capital market He employs three accounting-based measures; including ROA, ROE and gross profit margin, and concludes capital structure choices, generally, has a weak-to-no impact on firm performance

Tran Dinh Khoi Nguyen and Neelakantan Ramachandran10 (2006), conducted a study titled “Capital Structure in Small and Medium-sized Enterprises: The Case of Vietnam”

It was found that firm size and level of business risk have a significant and positive relationship with all measures of capital structure The stronger its relationship with a bank becomes, the larger the amount of bank loans an SME can obtain to finance operations

In summary, the results of examining the relationship between financing choices and performance are mixed and the question of capital structure’s impact on performance still holds well and empirical study continues

2.5 Hypotheses development:

According to almost theories I mention above include: MM theory, Trade-off theory, Pecking order theory, The information asymmetry and signaling theory the firm with higher debt should perform better, but that level of debt has to balance bankruptcy costs and benefits of debt finance because an increase in debt level will also increase the

probability of the firm’s bankruptcy While in some last years, Vietnamese firm’s debt ratio is in an alarming situation (Son, 2012), so I expect a negative relationship between leverage (DR) and firm performance The following hypothesis will be tested:

H1: A firm’s capital structure (Debt ratio) has a negative and significant impact

on its Gross Profit Margin

H2: A firm’s capital structure (Debt ratio) has a negative and significant impact

on its Return on Equity

H3: A firm’s capital structure (Debt ratio) has a negative and significant impact

on its Return on Asset

H4: A firm’s capital structure (Debt ratio) has a negative and significant impact

on its Tobin’s Q ratio

3 Research methodology

3.1 Data collection:

The sources of data for this study come mainly from a number of secondary sources, mostly online, including the Hochiminh Stock Exchange Extensive use has been made of annual reports and financial statements This study is based on the financial data from 2007 - 2011 of firms which were listed in Hochiminh stock Exchange (HSX) before 30-12-2007

Our data set include the data of 96 manufacturing companies in 5 years, which were classified in two ways:

- Different industries: include Light industry and Heavy industry

- Ownership: here only mention state-controlled companies and others which will

be named non state controlled companies

The data only available when that company was listed, so we can take all the data for 96 companies in 2011, but the companies’ data available in 2010, 2009, 2008, and 2007 are

93, 83, 71 and 49, respectively

3.2 Variable of research:

There are various measures of leverage, which can be classified as accounting based measures, market-value measures and quasi-market value measures The literature shows

a number of measures of capital structure such as Abor (2005 and 2007) and Ebaid (2009) used the three (short term, long term and total debt) to total assets as measures of financial leverage

In this study I use the most important measure of capital structure: The Debt ratio, which

is defined as total debt divided by total equity:

The most commonly used performance measure proxies are gross profit margin (GPM), return on assets (ROA) and return on equity (ROE) These accounting measures representing the financial ratios from balance sheet and income statements have been used by many researchers such as: Gorton and Rosen (1995), and Ang, Cole and Line (2000), Kuben Rayan (2008), Ebaid (2009), Arbiyan and Safari (2009), Saedi and Mahmoodi (2011), Abul (2012)…)

Besides that, there are other measures of performance called market performance measures One of these measures which used to measure firm's value in many studies is Tobin’s Q (McConnel and Serveas (1990), and Zhou (2001), King & Santor (2008), Saedi and Mahmoodi (2011), Abul (2012)…)

So that, the proxy for firm performance in this study is: GPM, ROE, ROA and Tobin’s Q

The gross profit margin (GPM) is a measure of the gross profit earned on sales The

gross profit margin considers the firm's cost of goods sold, but does not include other costs It is defined as follows:

Return on assets (ROA) is a measure of how effectively the firm's assets are being used

to generate profits It is defined as:

Return on equity (ROE) is the bottom line measure for the shareholders, measuring the

profits earned for each dollar invested in the firm's stock Return on equity is defined as follows:

Tobin’s Q was introduced by Tobin as an appropriate performance measure in 1969 and

is defined as follows:

3.2.3 Control variable:

As mentioned in the Hypothesis development, I examined the impact of four controlled variable: Firm size, Firm Age, Ownership and Different industries sector:

- Age: The number of years since the inception of the firm to the observation date

- Size: Natural logarithm of total assets

- Ownership: the state-controlled takes the value 1 and the other takes value 0

- Different industries sector: The dummy variable takes the value 1 if the firm is

Light industry (Include: Beverage, Food product, Farming & Fishing, Clothing & Accessories) and Heavy industry (Include: Heavy Construction, Steel, Specialty Chemicals, Furnishings, Building Materials & Fixtures, Electrical Components & Equipment, Pharmaceuticals & medical equipment) takes the value 0

3.3 Regression Method

Because of the nature of data set, in which variable change over time so panel data methodology is adopted, and the useful software for panel data analysis, STATA were used in this study Besides that, we need to control the effect of ownership and different industries sectors– the time invariant variables, which are absorbed by the intercept in the fixed effects model (Kohler, Ulrich, & Kreuter, 2009) so the Random effects model may

be chosen On the other hand, the underlying assumptions of random effects model is that the εi is a random drawing from a much larger population (Gujarati, 2003), while in this case, we take all the manufacturing companies in HSX, so suppose that it’s a random sample is not tenable

From the arguments, in order to analyze the impact of Capital structure on Vietnamese firms’ performance we should test respectively three methods:

Pooled regression model: In this model, approach is to disregard the space and time dimensions of the pooled data and just estimate the usual OLS regression That is, stack

the all observations for each company one on top of the other, thus we have all 392 observations for each of the variables in the model

Fixed effects model: In this model, we can only analyze the impact of variable that vary overtime but still assume that the slope coefficients are constant across firms

Random effects model: The basic idea is the same as fixed effects model but instead

of treating β1 as fixed, we assume that it is a random variable

And after that, the Hausman test will be run to test whether the preferred model is random effects model or the alternative fixed effects model (Greene, 2008)

3.4 Model of study:

Our model is based on a standard multiple linear regression analysis with the following specification:

With: Y is the Firm Performance variable as mentioned

DR is Capital structure (Debt-ratio)

Z is the controlled –variable

βi are the coefficients of the explanatory and controllable variables, respectively

is the error term

3.5 Conceptual framework: