محو شدن بازارهای سرمایه داخلی: شواهدی از گروه های متنوع کسب و کار در کره

This paper examines how the onset of a financial crisis affects the operation of internal capital markets among firms within a diversified business group. We find that active internal capital markets within Korean business groups (chaebols) attenuate the financial constraints of the group-affiliated firms, allowing them to make efficient capital allocations during the early 1990s. However, these markets barely function after the financial crisis of 1997. Instead, we observe public debt markets serving as a substitute for internal capital markets. Our results suggest that chaebol firms’ coordinated attempts to achieve healthier financial structures in the wake of the crisis have taken place at the expense of investment efficiency.

A number of recent studies show that corporate divisions of a diversified firm are not financially independent. Accordingly, internal capital markets play a major role in allocating capital in diversified firms and numerous papers have investigated the benefits and costs of these markets during the past few years.1 In this paper, we examine capital investment decisions of diversified firms and the operation of internal capital markets using a unique dataset from Korean large business groups (chaebols) during the period 1993–2005. We further examine how the onset of a financial crisis affects the operation of internal capital markets and the efficiency of capital allocation among firms within a diversified business group. In particular, we analyze whether the capital expenditures of chaebol-affiliated firms (hereafter chaebol firms) are justified by the investment opportunities and resources available to them. Our sample period encompasses the Korean financial crisis that erupted in late 1997, an event that is a natural structural break for examination. Since the crisis, the Korean government carried out a series of restructuring programs for chaebol groups. 2 We investigate whether chaebol firms’ capital allocation and investment activities were different before and after the crisis. This study makes several contributions to the literature. First, up until lately, the empirical studies on corporate diversification and internal capital markets have mainly focused on US conglomerates (Lamont, 1997, Shin and Stulz, 1998, Khanna and Tice, 2001 and Jandik and Makhija, 2005), and our findings add to this growing body of literature, providing international evidence that can be used to make future generalizations.3 Korean chaebols are similar to US conglomerates in two fundamental ways: (1) being well-diversified, they both allocate funds according to the needs of each group firm (or division); (2) they share similarities in corporate strategic planning. Second, we analyze the impact of a financial crisis on the operation of internal capital markets. Given that chaebols were at the core of the crisis, they represent an interesting case study on the impact of a financial crisis on capital allocation behavior. To our knowledge, the current paper is the first to comprehensively examine the function of post-crisis internal capital markets, and how these markets affect the efficiency of capital allocation among chaebol firms. 4 Finally, by using firm-level data, our study is not subject to the segment-level data limitations reported in prior studies (Lamont, 1997 and Shin and Stulz, 1998). Our firm-level dataset has several advantages over the US segment-level (or division-level) dataset. First, as discussed in Scharfstein, 1998 and Shin and Park, 1999, US conglomerates often allocate capital expenditures and assets arbitrarily across segments. In contrast, chaebols have less latitude in doing so since they are comprised of independent firms. We therefore should expect our chaebol dataset to provide less arbitrary accounting information. Second, divisional Tobin’s Q, a proxy for a division’s investment opportunities, is not available in the US dataset. Hence, Lamont, 1997, Shin and Stulz, 1998 and Scharfstein, 1998 use industry Q instead of divisional Q. A raised concern of using industry Q is that it may not be related to a division’s actual investment prospects. In contrast, using our dataset, we can compute a firm-specific Q for each public chaebol firm and thus mitigate the concern over industry Q. In contrast to anecdotal evidence, our results show that during the early 1990s active internal capital markets exist within chaebols. Along with the chaebols’ easier access to external financing, the internal capital markets attenuate the financial constraints of group-affiliated firms, allowing capital to be allocated to its best use. These results of our study in the pre-crisis period are close to those of Khanna and Tice (2001), who document that in the discount retail industry, investments of diversified firms in the discount retail division are more sensitive to performance than those of focused firms. Jandik and Makhija (2005) also report similar results from the US electric utility industry. These studies do not, however, investigate the link between a crisis of the domestic financial sector and the operation of internal capital markets. In contrast, our study makes a step forward in addressing this link. The pre-crisis efficiency of these internal capital markets seems to have been at a barely functional level after the onset of the financial crisis in 1997. It appears that chaebol firms were discouraged from making large investments, a reversal mainly driven by the government-initiated corporate restructuring program set in place after the crisis. On the contrary, size maximization is one of stated strategic goals of chaebol firms during the pre-crisis period as addressed in Ferris et al. (2003). In this study, we further investigate the efficiency of cross-subsidization since internal capital markets are argued to have both bright and dark sides. In an efficient internal capital market, a business group directs corporate resources to their best use. We thus expect firms with better investment opportunities to have higher priority in accessing group resources (Shin and Stulz, 1998). Our empirical results suggest that chaebol groups’ headquarters are indeed successful at picking winner firms and making efficient reallocations of group funds across affiliated firms. This implication is consistent with the studies of Stein, 1997 and Villalonga, 2004, which posit the positive perspective of diversification. Following the crisis, however, as a central part of the structural reforms by the government, chaebol firms were required to lower their debt-to-equity ratios to less than 200%. Cross-subsidization seems to disappear; we find that chaebol firms’ investment decisions become little affected by the cash flow of other group firms. Instead, public debt markets seem to be functioning as a substitute for internal capital markets after the crisis. It would appear that the malfunctioning of internal capital markets as a result of the crisis, along with the reduced level of leverage, drove chaebol firms to be financially constrained, preventing them from fully exploiting subsequent investment opportunities. Taken together, our results suggest that as the crisis unfolded, chaebol firms underwent drastic changes in their investment decisions, tending toward improved financial structures and enhanced transparency at the expense of efficiency. Our post-crisis findings are closely related to the findings of Kim et al. (2004), in that they provide evidence of the post-crisis market’s disciplining of chaebols. They document that main banks have gained power by charging higher interest rates to their client chaebol firms after the onset of the crisis. 5 This paper is organized as follows. In Section 2, we describe those structural weaknesses of chaebol firms that seem to be related to the eruption of the Korean financial crisis. Section 3 discusses the data and methodology used in our paper. Section 4 presents and discusses the empirical results. Section 5 presents the concluding remarks.

Internal capital markets play a major role in allocating capital in diversified firms. The question of whether internal capital markets lead to efficient capital allocation, however, is still under debate and provides the need for further empirical investigation across different countries, industries, and periods. In this paper, we examine how the onset of a financial crisis affects the operation of internal capital markets among firms within a diversified business group. We find that active internal capital markets within chaebols, along with their easier access to external financing, attenuated the financial constraints of group-affiliated firms and allowed them to make efficient capital investments during the early 1990s. In contrast to anecdotal evidence, the operation of these internal capital markets indeed enhanced the efficiency of capital allocation during that period, helping chaebol firms to successfully direct group cash flow away from those firms with poor growth opportunities and toward the firms with attractive future investment opportunities. However, the government’s efforts in the way of structural reforms after the crisis seem to have deterred the operation of internal capital markets. Instead, we observe public debt markets serving as a substitute for internal capital markets. Overall, our results suggest that chaebol firms have gone through drastic changes in their capital allocation and investment practices with the passage of the financial crisis. These changes may be, on one hand, understood as chaebol firms’ coordinated attempts to achieve healthier financial structures in the wake of the crisis. On the other hand, however, they appear to have taken place at the expense of investment efficiency.