Academic journal article IUP Journal of Corporate Governance

The Influence of Foreign Ownership on Capital Structure of Non-Financial Firms: Evidence from Istanbul Stock Exchange

Academic journal article IUP Journal of Corporate Governance

The Influence of Foreign Ownership on Capital Structure of Non-Financial Firms: Evidence from Istanbul Stock Exchange

Article excerpt

(ProQuest: ... denotes formulae omitted.)


This study empirically investigates the influence of foreign ownership on market and book leverages of 143 non-financial firms listed on Istanbul Stock Exchange (ISE) over the period from 2007 to 2008. There exists numerous studies explaining the relation between ownership structure and firm performance (Example: Morck et al., 1988; Mc Connel and Servaes, 1990; Jain and Kini, 1994; Holderness et al., 1999; and Himmelberg et al., 1999). But there are relatively limited studies on the relationship between ownership structure and firm's capital structure. The seminal paper by Brailsford et al. (2002) provides empirical support on the positive relation between the level of managerial ownership (insiders) and external block ownership and the leverage. Accordingly, the agency relationship between managers and shareholders has the potential to influence decision-making process in the firm which in turn potentially affects firm characteristics such as firm value and leverage.

The vast amount of empirical literature on capital structure which are mostly tested for developed markets, provides conventional determinants such as tangibility or collateral values of assets, size, profitability, growth, earnings volatility, non-debt tax shield, uniqueness and industry classification (Titman and Wessels, 1988; Harris and Raviv, 1991; and Frank and Goyal, 2009). There is indeed a gap in literature for testing the observed outcomes in different country settings. Hence, the testing of traditional capital structure variables for a developing country's conjecture with different market imperfections, information asymmetries and ownership structures (institutional and managerial differences) is a promising research area. In this paper, besides traditional capital structure variables, an institutional variable (foreign ownership), an important corporate governance variable, are added and an attempt has been made to explain the influence of foreign ownership on capital structures of ISE listed firms.

With regard to the firms with foreign ownership which have specific financial and business characteristics, theoretical arguments-which are also in line with our expectations-imply that the international diversification of earnings should decrease the variability of cash flows and bankruptcy costs and these, in turn, enable multinational firms to sustain higher leverage than domestic firms. On the other hand, the empirical papers by Fatemi (1988), Burgman (1996), Lee and Kwok (1988) and Chen et al. (1997) who examined the US data, find that multinational companies use less leverage than domestic firms. The relation between multinationality and capital structure is still an unresolved puzzle in the literature (Aggarwal and Kyaw, 2010).

In the light of the above discussions on foreign ownership and the factors affecting the capital structure, the primary research question in this study is defined as: Is there any relationship between debt financing and level of foreign ownership?

This paper summarizes the literature review on the relationship between ownership structure and capital structure with special emphasis on multinational firms with international diversification. Then, it presents the empirical modeling and discusses the findings. And finally it concludes.

Literature Review

The capital structure or how the firm's investments are financed is still one of the most controversial issues in finance. Since the Modigliani and Miller's landmark paper (1958) which argues that capital structure is irrelevant in determining the firm's value and performance under perfect market conditions with limitless arbitrage opportunities, a number of theories have been developed to explain whether one form of optimal capital structure or financing policy exists, taking into consideration the imperfections in the capital markets such as agency costs, taxes and information asymmetries. …

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