Impact of financial leverage on profitability of listed manufacturing firms in China

Abstract

Purpose The purpose of the study is to explore how financial leverage influences profitability of 1,503 listed manufacturing firms in China. Design/methodology/approach The sample of the study is composed of the listed manufacturing firms in China. For the manufacturing firms, the annual financial information from 2008 to 2016 is obtained from the ORBIS database. In this study, initially a simultaneous equation approach is used to control for potential endogeneity. Then, additional regression analyses are conducted with panel data over the period of 2008-2016 using OLS, Fixed-effects, First-difference, Random-effects and Arellano and Bond’s (1991) two-step Generalized Method of Moments (GMM) methods. Findings The results reveal that the impact of leverage on profitability is inverted U-shaped. In this inverted U-shaped relationship, the positive impact of financial leverage on profitability could be attributed to tax shield, whereas the negative impact might be because of bankruptcy cost, financial distress, severe agency problems and information asymmetry that the listed Chinese firms suffer from because of some institutional characteristics of China. Research limitations/implications First, this study focuses on only listed manufacturing firms in China. Second, ownership types are not taken into account in this study. Practical implications First, the Chinese government should direct its efforts toward developing the bond markets and promoting alternative privately owned loan creditors to state-owned banks. Parallel to this, the transformation process toward market economy should be accelerated to facilitate the privatization of state-owned enterprises (SOEs). In addition to this, development of the bond market and privatization of SOEs will also mitigate the agency conflict between creditors and managers and between shareholders and managers. Originality/value To the best of the author’s knowledge, this is the first study which investigates the impact of capital structure on profitability of the listed firms in China.

The Financial Performance of Manufacturing Companies in Idx and Some Factors That Influence

“…The results of this study are in accordance with Dalci's (2018) study of the focus of previous manufacturing companies in China; Dimitriae et al (2019) focused on hotel companies in several Mediterranean countries; Das and Swain (2018) focus on 50 manufacturing companies in India; Nhung and Okuda (2015) focus on companies on the Exchange in Vietnam and Vãtavu (2015) focus on companies on the Romanian Stock Exchange. Their research documents that debt affects company performance.…”

“…That means that companies in Romania are not profitable enough only to use internal funds for their investments. Research by Dalci (2018) on the hotel industry in the Mediterranean country found that factors affecting profitability are not the same in every coun-try. For instance, leverage affects profitability in hotel companies except for those in Greece.…”

Antecedents of Capital Structure and Firm Performance: Evidence From G-7 Countries

“…Pro tability is a measurement of e ciency and success or failure. In the context of some prior work (Dalci 2018, (Evgeny 2015 (lavorskyi 2013) explained pro tability have signi cant in uence on debt level. Similarly pro t have a positive connection between LD (β = 0.783, p < 0.000) and SD (β = 0.824, p < 0.000) TA (tangible assets) have signi cant positive association with debt level under GMM (β = 0.452, p < 0.014) Tangible assets are more important to business because they show company's worth.…”

An Empirical Investigation of the Associations of Short and Long Debt Policies With’ Economic Values of Energy Sector

“…The trade-off theory predicts a positive association between capital structure and firm performance. In support with this, several empirical studies found a positive relationship between capital structure and firm performance (e.g., Dalci, 2018;Berger and di Patti, 2006;Abor, 2005;Ghosh et al, 2000;Hadlock and James, 2002). The pecking order theory expects that the association between capital structure and firm performance is negative.…”

“…The extant research on the association of capital structure with firm performance provided mixed and contradictory results. Several studies reported a positive relationship between capital structure and firm performance (Dalci, 2018;Berger and di Patti, 2006;Abor, 2005;Hadlock and James, 2002;Ghosh et al, 2000;Champion, 1999;Roden and Lewellen, 1995;Ross, 1977). Conversely, some studies reported a negative association between capital structure and firm performance (Fernández-Temprano and Tejerina-Gaite, 2020; Assenga et al, 2018;Mishra and Kapil, 2017;Yasser et al, 2017;Plalniappan, 2017;Vithessonthi and Tongurai, 2015;Kumar and Singh, 2013;Sheikh and Wang, 2012;Cai and Zhang, 2011;Cheng, 2009;Ebaid, 2009;Jermias, 2008;Antoniou et al, 2008;Tian and Zeitun, 2007;Joshua, 2007;Haniffa and Hudaib, 2006;Weir et al, 2002;Fama and French, 2002;Booth et al, 2001;Gleason et al, 2000;Milton and Raviv, 1991;Short and Keasey, 1999;Majumdar and Chhibber, 1999;Wald, 1999;Kinsman and Newman, 1998;McConnell and Servaes, 1995;Rajan and Zingales, 1995;Friend and Lang, 1988;Kester, 1986;Titman and Wessels, 1988).…”