1
Managerial foreign experience and corporate risk-taking:
Evidence from China
Zixiong Sun*
School of Economics and Finance, Massey University Hamish Anderson
School of Economics and Finance, Massey University Jing Chi
School of Economics and Finance, Massey University
Abstract
This study investigates the relation between managerial foreign experience and corporate risk- taking in China. We find that foreign experienced managers are positively associated with corporate risk-taking and this relationship mainly exists in private firms rather than in state owned enterprises (SOEs). The positive association is more pronounced for executives who gain their foreign experience from countries with advanced management practices and for foreign practical experience rather than educational experience. Short-term visiting experience has no impacts on corporate risk-taking. The positive relationship between managerial foreign experience and corporate risk-taking in private firms is more persistent among firms with more resources, better corporate governance or weak external environments and monitoring. Finally, evidence shows that risk-taking executives with foreign experience are more likely to enhance firm value and performance.
JEL Classification Codes: G32, G34, G38, L33
Keywords: Managerial foreign experience, Risk-taking, Corporate governance
* Corresponding author.
Email address: [email protected]; Ph: +64 6 356 9099 ext. 85635; Fax: +64 6 350 5651.
School of Economics and Finance, Massey University, Private Bags 11-222, Palmerston North 4410, New Zealand.
2 1. Introduction
In the wake of internationalisation, there has been increasing interest from firms in employing executives with foreign experience. Although prior studies find foreign experienced executives positively affects international diversification (Nielsen, 2010), corporate performance (Giannetti, Liao and Yu, 2015), corporate social responsibility (Zhang, Kong and Wu, 2016), and innovation (Yuan and Wen, 2018), their impact on firm risk-taking is less clear. Further, even if foreign experienced managers do tilt firms towards riskier firm strategies, it is unclear whether such increases in firm risk-taking lead to enhanced value and performance. We fill this void by investigating the impact of foreign experienced managers on firm risk-taking.
Giannetti et al. (2015) highlight that directors with foreign experience greatly improve corporate governance. In addition, firms with better corporate governance can undertake riskier value enhancing investment, as managers are better monitored (John, Litov and Yeung, 2008).
Under this argument, foreign experienced executives would be risk seeking. On the other hand, Yuan et al. (2018) postulate that foreign experienced managers may find it difficult to assimilate back into the Chinese firm’s management systems. Therefore, potential conflicts arising between foreign experienced managers and other parties in the firm may result in less investment in riskier, value enhancing projects. Moreover, even if executives with foreign experience impact firm risk taking, the effect may differ between SOEs and private firms, as SOEs have extra pressures to meet government objectives which could impact firm risk-taking behaviour or decrease the personal influence from top executive team (Fogel, Morck and Yeung, 2008; Boubakri, Cosset and Saffar, 2013).
We concentrate on the Chinese market for several reasons. First, due to the rapid development of economy since 1970s, China is a globally significant market. However, as an emerging market, several issues remain such as weak legal system and investor protection, high ownership concentration and less developed labour markets (Sun and Wilson, 2003; Liu and
3 Lu, 2007; Berkman, Cole and Fu 2010). Through knowledge and advanced skills transmission of executives with foreign experience may play a positive role in corporate governance (Giannetti et al., 2015) which could alleviate these issues. Second, the number of Chinese travelling abroad for study and work has increased dramatically in recent decades. This has resulted in an increased number of foreign experienced talents with advanced knowledge and skills returning to work in China (Yuan et al., 2018) which deepens and strengthens China’s labour market of managers. Third, the Chinese market is strongly controlled by the state. In contrast to private firms, SOEs have greater access to resources such as finance and subsidies (Brandt and Li, 2003 and Faccio, 2006), but are also subject to more political pressure to maintain social and business environment stability (Li and Yamada, 2015; Ng, Yuce, and Chen, 2009). If managerial experience or character matters in Chinese firms, the impact would well differ between private firms and SOEs.
By dividing sample into private firms and SOEs, we document that executives with foreign experience are more likely to be associated with greater risk-taking activities. However, the positive and significant association between foreign experienced executives and risk-taking is only evident in the private subsample. The positive association in private firms is confirmed after endogeneity checks. First, we use a matched sample based on firm-level characteristics with propensity score matching (PSM). The result shows that firms with foreign experienced executives are more likely to be risk-seeking. Second, to address the endogeneity issues caused by unobserved factors, we then examine only those firms that transition from not having foreign experienced executives to having foreign experience on their executive team, or vice versa.
Focusing only on transition firms allows us to compare risk-taking of the same firm, with and without foreign experienced executives. The transitions results again confirm the significant association between managerial foreign experience and corporate risk-taking exists in private firms. Third, conducting PSM analysis using the transition firms’ sample verifies our earlier
4 results. Finally, we check our results by employing two instruments of British settlement areas and the development of non-state economy in the area with two stage least square (2SLS) regression. The results further confirm that the endogeneity concerns, stemming from omitted variables, do not influence our findings. The endogeneity checks also show that there is no significant relationship between managerial foreign experience and corporate risk-taking in SOEs, suggesting that state control and associated political objectives outweigh individual managerial characteristics in decision-making.
Next, using hand-collected data on the country where the executives gain their experience, we find the association is stronger for those whose experience is from the top managerial practice countries (US, Japan and Germany) as identified by Bloom, Genakos, Sadun and Van Reenen (2012). In addition, managerial foreign working experience has a stronger effect than managerial foreign educational experience on corporate risk-taking, whereas short-term overseas visiting experience does not influence corporate risk-taking. Further, we indicate that the impact of managerial foreign experience on corporate risk-taking is more pronounced for firms with more resources, better corporate governance and poor local economies or institutional monitoring. Finally, we find evidence that increased risk-taking leads to enhanced firm value and performance for private firms with foreign experienced executives. This suggests private firms may seek to employ foreign experience executives to encourage their firms to undertake riskier value-enhancing projects.
This study contributes to the literature in a number of ways. Firstly, we shed additional light on an executive’s characteristic that may influence firm risk-taking. To the best of our knowledge, this is the first study to examine foreign experienced executives and firm risk- taking in China. Secondly, this study enriches the developing but limited literature on the economic effects of managerial foreign experience. As individual foreign experience becomes more and more popular, particularly in developing countries, it is important to examine its
5 impact on firm decision-making. This study provides empirical evidence on how managerial foreign experiences contribute to firm risk-taking and more importantly, how the additional risks affect firm value and performance. Thirdly, we add evidence of knowledge spillover effects of executives with foreign experience on corporate decision-making (Giannetti et al., 2015; Yuan et al., 2018; Dai et al., 2018). Finally, we provide evidence supporting upper echelons theory, which highlights a significant relationship between organizational outcomes and managerial characteristics.
The remainder of this paper is structured as follows. Section 2 presents related literature and hypothesis development. Section 3 describes the data and methodology. Section 4 provides empirical results and the conclusion is presented in section 5.
2. Literature review and hypothesis development
2.1 Managerial foreign experience
Foreign experience is a type of human capital which is valuable and difficult to imitate by others, and such experiences help managers think globally and act locally (Coff, 1997;
Carpenter, Sander and Gregersen, 2000). Executives with foreign experience can benefit their firms through transferring knowledge and skills, providing business trends and foreign corporate governance standards, which in turn enhance firm value and performance (Giannetti et al., 2015; Miletkov, Poulsen and Wintoki, 2017; Iliev and Roth, 2018). The spillover of international experience facilitates research and development, and technology transfers (Filatotchev, Liu, Buck and Wright, 2009; Yuan et al., 2018), while also benefiting firms’
through accessing foreign markets, international market networks and international diversification (Edström and Galbraith, 1977; Sambharya, 1996; Tihanyi, Ellstrand and Daily, 2000; Blomstermo, Eriksson, Lindstrand and Sharma, 2004; Herrmann and Datta, 2005;
Suutari and Makela, 2007; Nielsen, 2010).
6 Given such benefits, the Chinese government enacted a series of allowance policies to attract foreign experienced talents to live and work in China in December 2008, namely “The Thousand Talent Plan”, with a goal of facilitating business growth and innovative activities.
According to 1000plan.org, the allowance includes freedom of residence registry in any city of China, medical care, insurances and living allowance (home-leave-subsidy, children- education-allowance etc.). To date, over 6000 foreign experienced talents have been successfully employed through “The Thousand Talent Plan”, playing positive roles in many innovative and expertized areas.
2.2 Corporate risk-taking
Faccio, Marchica and Mura (2016) posit that in perfect capital markets, managers should maximise firms’ market value as their first priority, and therefore, an individual’s characteristics should not influence risk-taking. However, Faccio et al. (2016) argue that when agency problems and information asymmetry are present, an individual’s characteristics may influence firm investment policy. Under such circumstances, individual characteristics such as age (Vroom and Pahl, 1971), gender (Khaw, Liao, Tripe, and Wongchoti, 2016), and behavioural aspects such as overconfidence (Malmendier and Tate, 2005; Malmendier and Tate, 2008; Li and Tang, 2010), may influence a firm’s investment policy. Further, Jensen and Meckling (1976) highlight that ownership structure significantly impacts firm risk-taking.
Specifically, firm risk-taking is negatively influenced by state ownership (Fogel et al., 2008;
Boubakri et al., 2013), whereas it is positively influenced by foreign ownership (John et al., 2008; Boubakri et al., 2013).
2.3 Hypothesis
The question is why executives with foreign experience may influence firm risk-taking?
According to upper echelons theory, managerial characteristics, in particular age, gender, tenure, functional background, working experience and formal educational background, have
7 implications for corporate outcomes (Hambrick and Mason, 1984). Giannetti et al. (2015) show that returnee directors with international experience from strong investor protection countries, improve their firm’s management practices and corporate governance. Further, firms with better governance can encourage firms to adopt riskier, but valuing enhancing investment policies, as managers are well-monitored to maximise corporate benefits (John et al., 2008). If foreign experienced executives improve management and corporate governance practices (e.g.
Giannetti et al., 2015), then those firms should adopt riskier value-enhancing investment strategies, thereby leading to higher risk. Innovation is a risky investment strategy (Tan, 2001) which builds and maintains firm competitive advantage (Nelson, 2009; Baer, 2012). Yuan et al. (2018) find a positive association between managerial foreign experience and firm innovation. This implies that firms with foreign experienced managers could participate in higher risk projects compared to those firms without foreign experienced managers. Although the above arguments postulate a positive relationship between foreign experienced managers and corporate risk-taking, it is also possible that returnee managers undertake less risk-taking.
For example, Yuan et al. (2018) suggest the relatively small number of highly skilled executives with overseas experience in key firm positions are treated as superstars, thereby attracting more attention from other parties such as employers, the government and institutional investors, which is called the eyeball effect. In response, these executives may face higher stress levels compared to others, leading to a fear of failure which increases their risk aversion (Yuan et al., 2018). Moreover, foreign experienced executive’s management practices may be influenced by foreign norms which leading to potential conflicts with other employees and making it harder to implement policy changes (Yuan et al., 2018).
While there are arguments for and against managerial foreign experience increasing corporate risk-taking, the prior empirical results infer that managers with foreign experience are more
8 likely to take risk through riskier value-enhancing projects (Giannetti et al., 2015; Yuan et al., 2018; and Zhang et al., 2018). Therefore, we hypothesise:
H1. Managers with foreign experience positively influence corporate risk-taking.
Even if managers with foreign experience can influence corporate risk-taking, it is possible that the relationship differs between SOEs and private firms (Fogel et al., 2008; Boubakri et al., 2013). Compared to managers in private firms, those in SOEs may not be able to influence firm behaviours significantly, as state-ownership is strong in SOEs, and political goals, such as maintaining social (Li and Yamada, 2015) and business environment stability (Ng, Yuce, and Chen, 2009), may be more pressing concerns for SOE. As such, we hypothesise:
H2. The relationship between managers with foreign experience and corporate risk-taking will
be stronger in private firms rather than in SOEs.
3. Data and methodology
In this section, we start with the description of our sample. We then provide details of our measures of corporate risk-taking, along with the control variables which are conventionally used in the literature to explain firm risk-taking. We present the methodology applied for this study at the end of this section.
3.1 Data description
The initial sample includes firms listed on all four boards in China’s markets, which are the SHSE, the SZSE main board, the SMEs and the ChiNext from 2008 to 20171. Financial firms are excluded. Additionally, due to the three year rolling standard model required to calculate the risk-taking measures, the sample period of FE data is from 2008 to 20152. After removing
1 The CSMAR commences coverage of managerial foreign experience data from 2008 and data for the ChiNext market starts in 2009 since it started trading on October 30, 2009.
2 The FE observations in 2016 are excluded as the rolling standard model requires data for the 2016 observations
over the 2016-2018 period and 2018 data was not released by CSMAR at the time of completing this analysis.
9 observations with missing values, the total number of firm-year observations is 15,922.
Following Chen, Ezzamel and Cai (2011) and Dai et al. (2018), the managerial foreign experience (FE dummy), is a dummy variable equals to one if a firm’s chairman, vice chairman3 and/or CEO has foreign experience. Unlike US listed companies, the majority of firms listed in China separate chairmanship and CEO since both of the positions are powerful in firm decision-making (Shen and Lin, 2009). In particular, among these firms, more than half of the chairmen work full time, acting as legal representative and being responsible for firms’ daily operations (Kato and Long, 2006). Hence, both chairman and CEO foreign experiences are included as the main independent variable.
3.2 Risk-taking measures
Following previous studies (John et al., 2008; Boubakri et al., 2013; Khaw et al., 2016), three measurements are used to proxy for corporate risk-taking. In particular, return on assets (ROA) standard deviation (risk1) and return on sales (ROS) standard deviation (risk2) are calculated by using a rolling standard model. The choice of a three-year window to measure earnings volatility is consistent with the three-year terms which board members are appointed for in China. Following previous studies (Boubakri et al., 2013; Faccio et al., 2016), risk1 is measured by three-year periods (one contemporaneous and two leading periods). For instance, firm risk- taking in 2008 is examined by the earnings volatility in the years 2008 to 2010. According to John et al. (2008), riskier projects contribute to higher earnings volatility, which is an indicator for the firm’s level of risk-taking from operations. Similarly, risk2 replaces ROA volatility with ROS volatility over the same periods. In comparison with the ROA measurement, ROS reduces sensitivity to inflation, accounting conventions and management through time (D’Souza &
Megginson 1999; Fan, Wong and Zhang, 2007).
3 Vice chairman is also a full time position which looks after company’s daily operation in the Chinese market.
Chen et al. (2011) define vice chairman as a powerful position.
10 3.3 Control variables
Regarding corporate governance control, we include ownership concentration (Top1, Top 2-5), board size (bsize) and board independence (indeperc) as control variables. Top1 refers to the largest shareholding and Top 2-5 represents second to fifth largest shareholding. According to Khaw et al. (2016), the largest shareholding is correlated with risk-taking positively, whereas the other large shareholders (2-5 largest) are expected to undermine risk-taking behaviours.
Additionally, bsize is captured by the natural logarithm of a total number of directors on the board, while indeperc is the ratio equal to the number of independent directors over the total number of directors on the board. We also control for foreign ownership as it has positive relationship with corporate risk-taking (Boubakri et al., 2013). Foreign ownership (FO) is the number of shares held by foreign investors over the total shares in issue. According to previous studies (Eisenberg Sundgren and Wells, 1998; Wang, 2012; Huang and Wang, 2015 and Cheng, 2008), both bsize and indeperc negatively and positively impact firm risk-taking respectively, as smaller boards and higher composition of independent directors provide stronger monitoring to CEOs, forcing them to engage in riskier decision-making and hence maximizing firm value and shareholders’ benefits.
We use roa to measure profitability as Faccio Marchica and Mura (2011) indicate that less profitable firms may take greater risk. Consistent with Khaw et al. (2016), for regression models using risk measures risk1 and risk2, we control for leverage which is measured as total debt divided by total assets. Boubakri et al. (2013) highlight that higher financial leverage is associated with higher corporate risk-taking. In addition, we control for sale growth defined as the annual growth rate of sales, which captures the effects from operating activities and growth opportunities and is expected to be positively related to corporate risk-taking (Khaw et al., 2016). We also apply firm size and firm age to capture the influences from firm characteristics.
Previous studies (John et al., 2008; Faccio et al., 2011 and Boubakri et al., 2013) illustrate that
11 smaller and/or younger firms have more incentives to take higher risk, than larger and/or more mature firms. We measure firm size and firm age as the natural logarithm of total assets and the natural logarithm of one plus the years between establishment of the firm and year of observation, respectively4. All variables are winsorized at the 1% and 99%, and the correlation matrix is presented in Appendix B.
3.4 Methodology
Following previous studies (e.g. Boubakri et al., 2013, and Faccio et al, 2016), we run an OLS regression. To reduce potential endogeneity issues, we employ firm-year fixed effects and cluster standard errors by industry in our regression. The basic model is presented in Equation 1:
𝑟𝑖𝑠𝑘−= 𝛼 + 𝛽1 𝐹𝐸 𝑑𝑢𝑚𝑚𝑦 + 𝛽2 𝑡𝑜𝑝1 + 𝛽3 𝑡𝑜𝑝2 − 5 + 𝛽4 𝐹𝑂 + 𝛽5 𝑏𝑠𝑖𝑧𝑒 + 𝛽6 𝑖𝑛𝑑𝑒𝑝𝑒𝑟𝑐 + 𝛽7 𝑅𝑂𝐴 + 𝛽8 𝑙𝑒𝑣𝑒𝑟𝑎𝑔𝑒 + 𝛽9 𝑠𝑎𝑙𝑒𝑔𝑟𝑜𝑤𝑡ℎ + 𝛽10 𝑓𝑖𝑟𝑚𝑠𝑖𝑧𝑒 + 𝛽11 𝑓𝑖𝑟𝑚𝑎𝑔𝑒 + 𝐹𝑖𝑟𝑚 + 𝑌𝑒𝑎𝑟 + 𝜀 (1)
where αi represents the intercept, ε is an error term. The dependent variable risk_ is our measures of corporate risk-taking outlined in Section 3.2, while FE dummy is the explanatory variable, which measures managerial foreign experience. Control variables include top1, top2- 5, bsize, indeperc, ROA, leverage, salegrowth, firmsize, firmage, Firm and Year. All the variables are defined in Appendix A.
4. Empirical results
In this section, we report our results based on the methodology described above.
4 Based on previous studies (Vroom and Pahl, 1971; Faccio et al., 2016), executive’s age and gender may
influence firm risk-taking. However, given that we are not just looking at a single individual within firms, rather both the CEO and chairman, controlling for age and gender for multiple positions in the same firm may generate biases. To ensure the result is consistent, we ran a test controlling chairman’s age and gender. However, if a firm has foreign experienced CEO rather foreign experienced chairman, then we replace chairman’s age and gender with CEO’s age and gender. The result remains the same after controlling for age and gender in this manner.
12
4.1 Summary statistics
Table 1 reports the results of summary statistics with mean and median differences between private firms and SOEs. All variables are significantly different across the table. Private firms have higher earnings volatilities than SOEs, indicating that private firms take more risk than SOEs. The significant result of FE dummy shows that foreign experienced executives are more likely to work in private firms rather than SOEs. Moreover, SOEs have higher largest shareholdings, whereas private firms have higher second to fifth largest shareholders, revealing a higher ownership concertation in SOEs than private firms. Further, SOEs have higher financial leverage, consistent with prior findings that Chinese SOEs have easier access for bank financing (Huang et al., 2015).
[Insert Table 1 here]
4.2 Managerial foreign experience and firm risk-taking
Table 2 shows the results for OLS regression. The coefficient of FE dummy is positively and significantly correlated with risk1 and risk2 in private firms, whereas it is negatively and significantly related to risk1 and risk2 in SOEs. The positive relationship between managerial foreign experience and corporate risk-taking in private firms confirms H1. This result may be explained by two reasons, the spillover effect and better corporate governance（Giannetti et al., 2015; and Zhang et al., 2018）. Firstly, the spillover of the executives’ foreign knowledge and skills may encourage firms to develop innovative technologies and processes which benefit firm performance. Secondly, the foreign experience of executives may also benefit corporate governance through investing in riskier but value-enhancing projects (John et al., 2008). We test these further in section 4.9. In addition to FE dummy, roa is negatively associated with risk taking, which is consistent with Faccio et al. (2011) who argues that less profitable firms are more likely to take risk. Moreover, leverage is positively and significantly related to risk-taking
13 measures, indicating that firms use financial leverage as a source to invest in risker project (Boubakri et al. 2013).
The negative coefficients of FE dummy in SOEs indicate that foreign experienced managers in SOEs find it more challenging to undertake riskier value enhancing projects compared to private firms. This may be due to the eyeball effect or potential conflicts between foreign experienced executives and other employees as suggested by Yuan et al. (2018). However, it may also be due to the emphasis of political goals and pressures from the state owners in SOEs.
However, the results in Table 2 may be driven by potential endogeneity issues, and we will seek to address these issues in the following sections.
[Insert Table 2 here]
4.3 Propensity score matching (PSM) results
As the number of foreign experienced top managers is small relative to the total sample, using the full sample is likely to be noisy and have endogeneity concerns, where foreign experience observations may not be exogenously random. For instance, Giannetti et al. (2015) indicates that foreign experienced returnees have weaker political ties, resulting in fewer incentives to please politicians and other local constituencies. They also argue that foreign experienced executives may select to work in firms with better corporate governance as those firms’
governance standards may be closer to the firms in western countries.
Given the above reasons, we use PSM to address the selection concern. We first run a probit model, predicting the likelihood of appointing foreign experienced executives with a group of characteristics and firm level variables as well as firm-year fixed effect. The function of PSM is to create two group of samples, incorporating a similar level of specific controls between firms with foreign experienced managers and firms without foreign experienced managers. The probit regression model is expressed in Equation 2.
14 𝐹𝐸 𝑒𝑥𝑒𝑐𝑢𝑡𝑖𝑣𝑒𝑠 = 𝛼 + 𝛽1 𝑡𝑜𝑝1 + 𝛽2 𝑡𝑜𝑝2 − 5 + 𝛽3 𝑏𝑠𝑖𝑧𝑒 + 𝛽4 𝑖𝑛𝑑𝑒𝑝𝑒𝑟𝑐 + 𝛽5 𝑅𝑂𝐴
+ 𝛽6 𝑙𝑒𝑣𝑒𝑟𝑎𝑔𝑒 + 𝛽7 𝑠𝑎𝑙𝑒𝑔𝑟𝑜𝑤𝑡ℎ + 𝛽8 𝑓𝑖𝑟𝑚𝑠𝑖𝑧𝑒 + 𝛽9 𝑓𝑖𝑟𝑚𝑎𝑔𝑒 + 𝜀 (2)
Further, we use propensity scores estimated in Equation 1 to implement a one-to-one PSM procedure, creating a treatment group with foreign experienced executives and a matching group without foreign experienced executives. The reduced sample size provides an opportunity to compare the treatment group to statistically similar matching group with a matching algorithm. Given these two different groups (treatment and matching), the PSM sample is randomly assigned if firms in treatment group have the same propensity category with firms in matching group (d'Agostino, 1998).
Based on the probit model, we produce a panel data to investigate the relationship between foreign experienced managers and corporate risk-taking. Table 3 presents results for the PSM analysis, using risk measures of risk1, risk2 and risk3 with 2,448 and 990 firm-year observations in private firms and SOEs respectively. Appendix C compares the PSM treatment and matching groups. The differences in the variables used in the PSM matching process for the treatment and matched groups are all insignificant across panels A and B, indicating a well- matched sample. In Table 2, the FE dummy is positively and significantly related to the risk1 and risk2 risk-taking measures at the 5% level in private firms. In line with H1, this result highlights that firms with foreign experienced executives are more likely to be associated with greater risk-taking. As discussed, foreign experienced top managers are treated as super stars, attracting more attention from other parties and are more likely to engage in innovation activities (Yuan et al., 2018). All of these elements may attribute higher risk-taking to foreign experienced manager’s motivation for firm value enhancing. This finding provide additional evidence for the argument that different managerial characteristics influence firm risk-taking (Faccio et al., 2016).
15 Consistent with H2, The FE dummy is insignificantly related to the risk-taking measure in SOEs, indicating that managerial foreign experience is less pronounced to risk-taking in SOEs.
Compared to managers in private firms, those in SOEs may not be able to influence firm behaviours significantly, as state-ownership is strong in SOEs, and political goals, such as maintaining social (Li et al., 2015) and business environment stability (Ng et al., 2009), may be more pressing concerns for SOE. This result provides evidence that in SOEs, state ownership outweighs the personal characteristics of an individual’s foreign experience, in terms of firm risk-taking. Additionally, firmsize is negatively associated with risk1 and risk2, which is consistent with Boubakri et al. (2013), while roa is negatively and significantly related to risk-taking, which indicates less profitable firms are more likely to increase firm risk-taking (Faccio et al., 2011).
[Insert Table 3 here]
4.4 Transition firms
In this section, we investigate whether the time-variate-unobserved factors influence the significant association between managerial foreign experience and corporate risk-taking. The omission of these factors may lead to potential biased result. Following Faccio et al. (2016), we only include firms who transition from having no foreign experienced managers to a foreign experienced manager, or vice versa. We then run regressions based on the reduced sample size, allowing us purely test the impact of time-variate-unobserved factors on the relationship between managerial foreign experience and corporate risk-taking. The transition results reported in Table 4 panel A confirms that private firms with foreign experienced executives, have significantly higher earnings volatility than those without foreign experienced executives when the firms are managed by foreign experienced executives rather than non-foreign experienced executives. In addition, the coefficients of FE dummy is insignificant in the SOEs
16 subsample, confirming that the time-variate-unobserved factors also have stronger influence on foreign experienced executives’ risk-taking behaviour in SOEs rather than private firms.
4.5 Transition sample PSM
One issue with the transition sample test is that the transitions may occur at a specific point.
To further address the selection concern, we provide a PSM tests and target on firms experiencing a transition from non-foreign experienced executives to foreign experienced executives or vice versa. Consistent with Faccio et al. (2016), our matched group is selected from firms without hiring any foreign experienced executives across the whole sample period.
Our control group is matched based on a function of firm-level characteristics. The results are shown in Table 4, Panel B. Similar to the Panel A transition results, private firms run by foreign experienced executives undertake more risk than those run by non-foreign experienced executives. Again, the FE dummy is insignificantly related to risk-taking in the SOE subsample, indicating that some unobserved factors, rather than managerial foreign experience, may have a stronger influence on corporate risk-taking in SOEs, such as the stability of social-based performance (Yuan et al., 2018).
Further, we apply a robustness test for transition PSM analysis. Specifically, we anticipate the positive and significant results are from managerial foreign experience rather than other firm level characteristics. Therefore, we narrow down the transition PSM sample with the treatment group, only consisting the firm-year observations excluding the periods that foreign experienced executives work for firms, and corresponding matched sample in control group.
The Pre-trend dummy is equal to one for observations from treatment group, and zero for observations from control group. According to Panel C of Table 4, the Pre-trend dummy is insignificantly correlated with risk-taking measure, further indicating that the positive and significant relationship between managerial foreign experience and corporate risk-taking is not driven by other factors. After using different methods to address various endogeneity concerns
17 (PSM, transition analysis and transition sample PSM), our primary findings between managerial foreign experience and corporate risk-taking remain. We find an asymmetric relationship between managerial foreign experience and corporate risk-taking for different ownership structures. In particular, a positive and significant association is evident in private firms, whereas there is no consistent association in SOEs between foreign experienced managers and risk-taking. These results support our hypothesis that, even after controlling for endogeneity issue, executives with foreign experience have significant impact on corporate risk-taking taking, and this relationship exists in private firms rather than SOEs.
[Insert Table 4 here]
4.6 Instrumental variable tests
In this section, we apply two instrumental variables to mitigate the endogeneity concerns from omitted variables and reverse causality. First, we follow the logic in Zhang et al. (2016) and Dai et al. (2018) that people who lived in provinces which had a British concession or a leased territory during the latter period of the Qing Dynasty were more likely to be influenced by foreign culture and therefore have greater inclination to travel abroad. Moreover, foreign experienced talents are more likely to work in these provinces as these provinces are more influenced by foreign culture. As a result, these provinces have higher likelihood to have foreign experienced returnees to be employed by local firms. According to Yang and Ye (1993), we use the dummy variable british, which is equal to one if a province had a British concession or a leased territory during the latter days of the Qing Dynasty, otherwise zero. These provinces included Fujian, Hubei, Jiangxi, Jiangsu Guangdong, Shandong, Tianjing and Shanghai.
Second, we argue that firms located in provinces with poor non-state economy development may have more likelihood to employ executives with foreign experience. According to Wang, Fan and Hu (2019), the non-state economy is an aggregated measurement of economy
18 development in private enterprises, including the percentage of gross revenue, employment and the investment of fixed assets in private enterprises over entire economy in China5. Firms located in provinces with less developed non-state economy may prefer to employ foreign experienced executives to bring advanced knowledge and skills from overseas. However, firms located in provinces with well-developed non-state economies may be less likely to employ foreign experienced talents, as those firms may already have acquired advanced knowledge and skills through better marketization of these provinces. Therefore, our second instrument variable, non-state economy is equal to one if the province is ranked in top 5 in the fiscal year, in terms of non-state economy development.
Table 5 presents the results of instrumental variables test6. To confirm our instruments are relevant and valid, first we ensure that both of the instrumental variables are statistically significant in the first stage regression, indicating the relevance of our instruments. Second, the values of F-statistic are all above 10, highlighting that the instruments are jointly relevant.
Third, the Hanse J-statistic p-value is insignificant in both models, which supports the validity of the instruments. According to the second stage results, the coefficient of FE dummy is positively and significantly related to risk-taking in private firms, whereas it is insignificantly related to risk-taking in SOEs. The findings are consistent with our previous endogeneity checks, inferring that our results of the relationship between managerial foreign experience and corporate risk-taking are not driven by endogeneity concerns. In the following sections, we will further investigate the impact of different types of foreign experience on risk-taking and how this relationship impact firm value. Given the relationship between managerial foreign
5 Wang et al. (2019) indicate that although provinces in eastern China have better non-state economy compared
to central or western provinces, the growth rate of non-state economy is faster in central or west areas than that in east areas. For example, Beijing and Shanghai are less developed in non-state economy, whereas Henan is ranked in top 5 over all provinces in 2016.
6 The results for risk2 are suppressed for brevity. In the unreported table instrumental test, FE dummy is positively
and significantly related with risk2 at 1% significance level in private firms whereas it is insignificantly related to risk2 in SOEs.
19 experience and risk-taking only exists in private firms after controlling for endogeneity concerns, we now only focus on private firms in the following tests.
[Insert Table 5 here]
4.7 Managerial practice index
Giannetti et al. (2015) indicate that directors who gain their foreign experience from countries with advanced management practices have positive effect on firms’ internationalization and hence improve corporate governance. John et al. (2008) find that better corporate governance has positive effects through firms’ investing in riskier value enhancing projects. Here we test whether managers who gain foreign experience from countries with advanced management practices are more likely to undertake higher risks. Bloom et al. (2012) rank managerial practice across countries by capturing the exertion of management techniques on cost reduction and quality improvement for firms’ productivity and valuation. Based on the managerial practice index presented by Bloom et al. (2012), we define the top three countries7 in which managers gained their foreign experience from, as a dummy variable (High MP Ranking) equal to one, otherwise zero.
According to Table 6, executives who are exposed to countries with advanced management practices have positive and significant correlation with firm risk-taking in private firms8. Interestingly, the significance of FE dummy disappears in model 1, 3 and 4, which suggests the impact of foreign experience in the main results are strongest when those executives gain their experience in countries with advanced management practice.
[Insert Table 6 here]
7The top three countries based on Bloom et al. (2012) managerial practice index are the US, Japan and Germany as countries which have best management practices.
8 An unreported robustness check is applied by only including the top country. The results stay the same in this
model. We also use PSM to check the endogeneity, the significance of FE dummy still holds in PSM model, confirming that our results are not driven by endogenous bias. The result table is available for further request.
20 4.8 Different types of foreign experience
It is possible that different types of foreign experience influence corporate risk-taking differently. Foreign practical, rather than educational experience may have stronger effect on corporate risk-taking as practical experience provides better opportunities for executives to observe and practice the advanced knowledge and skills of other countries. Moreover, the duration of time spent in foreign countries may also a key determinant for executives in corporate decision-making. Further, the longer duration spent overseas, may help enhance executives’ understanding of different practices and knowledge, and are therefore more likely to bring their newly acquired skills and knowledge upon returning to work in China (Zhang et al., 2016).
We estimate the model by dividing FE dummy into different types of foreign experience. The results are shown in Table 7. Consistent with our conjecture, the result of foreign practical experience is more significant than that of foreign educational experience, indicating that managerial foreign practical experience has a more pronounced impact on corporate risk-taking.
Further, we find that managerial foreign short-term visiting experience does not influence corporate risk-taking, suggesting that the duration of the time spent overseas can also impact executives differently, in terms of risk-taking.
[Insert Table 7 here]
4.9 Corporate policies, governance and external circumstances
The positive relationship between managerial foreign experience and corporate risk-taking in private firms has been confirmed by several endogeneity checks. In this section, we investigate whether different policies and environments will impact foreign experienced executives’
decision on risk-taking. In particular, we focus on firms’ resources, corporate governance and external environment. Following Li and Zeng (2019), we divided our private firms sample into
21 sub-samples, based on the median value of several corporate policies, corporate governance and external environments, respectively.
4.9.1 Resources
First, we concentrate on corporate resources, as firms with more resources at their disposal have greater opportunity to engage in risk-taking activities (Cyert and March, 1963; and Hambrick and Finkelstein, 1987). Moreover, resources are important for firms to maintain sustainable competitive advantages, providing more leeway to allocate resources for strategic goals. Therefore, we expect firms with high intensity of resources will strengthen the positive relationship between managerial foreign experience and corporate risk-taking.
Following previous studies (Ge and Qiu, 2007; Boubakri et al., 2013; Serfling, 20149; Bernile, Bhagwat and Yonker, 2018; and Koirala, Marshall, Neupane and Thapa, 2018), we employ R&D expenditure, operating leverage, financial leverage, capital expenditure and trade credit as the proxies of different corporate resources10. High intensity of different resources, such as R&D and capital expenditure, enrich the sources for foreign experienced executives to implement riskier value-enhancing projects. The coefficients of FE dummy in Panel A of Table 8 are positively and significantly correlated with corporate risk-taking when firms have higher intensity of R&D expenditure, whereas the correlation turns negative when the intensity of R&D expenditure is lower. Moreover, while the coefficients of FE dummy are all positive, this is primarily driven by the above median sub-samples. Our results suggest that the higher
9 Operating leverage is computed as the percentage change in operating income to the percentage change in sales with quarterly data in three-year window from year t to year t+2. We include firms with no less than eight quarters of non-missing data. We regress operating income and sales for each firm over three-year window:
Operating incomei= αi+ βi Salei+ εi . We then calculate Operating leverage as βi(Sale̅̅̅̅̅̅ /i
Operating income̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅̅)i , where Sale̅̅̅̅̅̅ and Operating incomei i represent the mean values of sales and operating income for firm i over three-year window, respectively.
10 All proxies are defined in Appendix A.
22 available corporate resources can strengthen the positive and significant relationship between managerial foreign experience and corporate risk-taking.
4.9.2 Corporate governance
Second, we investigate whether the quality of corporate governance matter on the impact of managerial foreign experience on firm risk-taking. John et al. (2008) indicate that when managers are well monitored with better corporate governance, they focus more on beneficial risky projects rather than private interests. Giannetti et al. (2015) provide evidence that managerial foreign experience have positive effect on corporate governance. Therefore, the improved corporate governance, explained by executives’ foreign experience may also facilitate managers to take care of minority shareholders’ interests through investing in riskier value-enhancing projects.
Bhagat and Black (2002) argue that independent directors are expected to better monitor management compared with other directors on board. Therefore, we define the percentage of independent directors as a measure of corporate governance quality. The other measure of corporate governance we use is the percentage of top management ownership over total number of shares issued. Dixon, Guariglia and Vijayakumaran (2017) argue that managerial ownership can align managers’ incentives with shareholders’ interests, resulting in an increase of firm value and decrease of agency problems and costs. According to Panel B of Table 8, the impact of managerial foreign experience on corporate risk-taking is only significant for firms with the ratio of independent directors and managerial ownership above the median and for firms without CEO duality. The results indicate that better corporate governance have positive effect on foreign experienced executives protecting minority shareholders’ interests, resulting from investing more in beneficial risky projects.
23 4.9.3 Local economies and institutional environment
According to Khaw et al., (2016), provinces such as Zhejiang and Guangdong in the eastern regions have better external governance and institutional environment. However, the external governance and institutional environments in the western regions such as Tibet and Qinghai are less developed. According to Chen, Cumming, Hou and Lee (2016), better external monitoring can facilitate corporate transparency and reduce the corporate fraud opportunities and agency problems. On the other hand, weak external monitoring may lead to high agency costs, opaque corporate transparency, and thereby decreasing firm value and investors’ wealth.
Although the Chinese government provides numerous supports for western regions, the economy in the western areas still falls behind the eastern areas (Wang Feng and Xu, 2019).
The natural location, less developed transport systems limits the communication of western enterprises with the outside world, resulting in poor market internationalization and high costs of transportation. Given such reasons, companies in western regions are more likely to acquire resources through other channels such as increasing political connections to reduce financial constraints and gain access to more government subsidies (Luo and Zhen, 2008; Chan, Dang and Yan, 2012; and Wang, Wu and Xue, 2017). Likewise, the effect of managerial foreign experience may be more pronounced among firms with less developed external environment and monitoring, as those firms have a greater need for well-trained talents to overcome the poor external settings to enhance firm performance. Therefore, we expect foreign experienced executives have a greater influence on risk-taking activities among private firms when the local economies and institutional environment are poor.
We use provincial GDP growth and institutional ownership to measure provincial economies and external monitoring. GDP growth is conventionally used to measure the economic growth and development for each province (Chen, Cheng, Hao and Liu, 2019). A higher value of GDP growth indicates a better developed local economy. Institutional ownership provides
24 monitoring mechanisms. Higher percentage of institutional ownership indicate better external corporate governance (Li et al., 2019). According to Panel H and I of Table 8, the coefficients of FE dummy are only/or more significant among firms in the below-median subsamples, indicating that the effect of managerial foreign experience on corporate risk-taking are more pronounced when external environments are weak.
[Insert Table 8 here]
4.10 Implication of risk-taking on firm value and performance
So far, we find that managerial foreign experience leads to firm higher risk taking in private firms. The next question is whether this high risk associated with managerial foreign experience could enhance firm value or not. Existing literature posits a positive relationship between corporate risk-taking and market valuation of firms (John et al., 2008; Faccio et al., 2011). In investigating the Indian market, Koirala et al. (2018) find that the higher risk-taking activities firms undertake after major corporate governance reform, positively influences firm value. In addition, Giannetti et al. (2015) indicate a positive relationship between foreign experienced directors and firm operating efficiency. Aligning these empirical evidences with the result that foreign experienced executives have positive influence on firm risk-taking, we conject that the additional risk-taking from executives with foreign experience could positively affect firm value and performance.
To test this, we calculate Tobin’s Q as a measure of firm value. Consistent with Yuan et al.
(2018), it is the sum of market value of equity and book value of total liability to the book value of total assets. Additionally, firm performance is measured by operating efficiency (OE), computed as sales scaled by total assets (Giannetti et al., 2015). Further, we interact FE dummy with risk1 and risk2 to capture the explanatory variables, respectively. The regression models are presented in Equation 3:
25 𝑇𝑜𝑏𝑖𝑛′𝑠 𝑄 𝑜𝑟 𝑂𝐸
= 𝛼 + 𝛽1 𝐹𝐸𝑑𝑢𝑚𝑚𝑦 + 𝛽2 𝐹𝐸 𝑑𝑢𝑚𝑚𝑦 ∗ 𝑟𝑖𝑠𝑘_ + 𝛽3𝑟𝑖𝑠𝑘_ + 𝛽4 𝑡𝑜𝑝1 + 𝛽5 𝑡𝑜𝑝2 − 5 + 𝛽6 𝐹𝑂 + 𝛽7 𝑏𝑠𝑖𝑧𝑒 + 𝛽8 𝑖𝑛𝑑𝑒𝑝𝑒𝑟𝑐 + 𝛽9 𝑅𝑂𝐴 + 𝛽10 𝑙𝑒𝑣𝑒𝑟𝑎𝑔𝑒 + 𝛽11 𝑠𝑎𝑙𝑒𝑔𝑟𝑜𝑤𝑡ℎ + 𝛽12 𝑓𝑖𝑟𝑚𝑠𝑖𝑧𝑒 + 𝛽13 𝑓𝑖𝑟𝑚𝑎𝑔𝑒 + 𝜀 (3)
The results of the estimation are shown in Table 9. Models 1 and 2 report the results of Tobin’s Q while Models 3 and 4 show the results of OE. When FE dummy is interacted with ROA standard deviation, it is positively and significantly associated with Tobin’s Q and OE at the 10% levels, respectively. The positive and significant results reveal that risk-taking is an important mechanism for which the executives with foreign experience enhance firm value and performance.
[Insert Table 9 here]
4.11 Robustness checks
We provide two robustness checks of our main results1112. First, the number of firm-year observations is not equal across provinces, which may result in a large number of observations distributed in provinces with better development and institutional environment. Following Khaw et al. (2016), we incorporate weighted least squares (WLS) regression model based on the full private firms’ sample. Each observation is weighted by over the number of firm-year observations for each province in China. The result is reported in Table 10 columns 1 and 2.
Both coefficients of FE dummy remains statistically significant, which confirms the positive relationship between foreign experienced executives and corporate risk-taking after concerning geographic distribution.
11 In addition to the robustness checks discussed in this section, we also check the robustness by controlling duality
in private firms regression model. The FE dummy remains positive and significance, confirming that firms with foreign experienced executives prefer invest in riskier projects.
12 In another unreported table, we employ high dimension fixed effects to check the robustness. Following Li et
al. (2019), we define high dimension of fixed effects as firm, industry and year fixed effects. The results still remain the same after adding industry fixed effects in the model.
26 Second, following Boubakri, Mansi and Saffar (2013), we use additional proxies for corporate risk-taking including risk3 which is the ROA range and risk4, the ROS range, in the private firms regression model. ROA (ROS) range, is calculated as the difference between the maximum and minimum ROAs (ROSs) over three-year periods. The results are reported in Table 10 columns 3 and 4. All the coefficients of FE dummy for risk3 and risk4 are statistically significant, which confirm H1.
[Insert Table 10 here]
5. Conclusion
We examine the impact of managerial foreign experience on firm risk-taking. Using the proxies of earnings volatility, we find that firms with foreign experienced executives undertake greater risk and this result only exists in private firms rather than in SOEs. One potential reason is that foreign experienced managers in SOEs may experience greater pressures from the government to implement political goals which mitigates their motivation to engage in riskier value enhancing projects.
Further, evidence shows that this impact is stronger when executives gain their experience from countries with the best advanced management practices, and the nature of their foreign experience is practical, rather than educational. In contrast, managerial foreign short-term visiting experience does not influence corporate risk-taking. The empirical evidence also suggests that the positive impact of managerial foreign experience on corporate risk-taking are stronger among firms with higher intensity of corporate resources (including R&D and capital expenditure, operating leverage, financial leverage and trade credit), better corporate governance and poor local economies environments and institutional monitoring. Finally, the risk-seeking behaviour from foreign experienced chairmen and CEOs, positively influence firm value and performance in private firms.
27 This study benefits firms by highlighting that managerial characteristics, and in particular the foreign experience of managers, influences corporate risk-taking at least in private firms, and this higher risk-taking improves their firm’s value and performance. These findings are especially useful for young firms who require a mechanism for faster growth. Further, it is also beneficial to policymakers in gauging the success of policies encouraging expatriates to return home, such as China’s ‘The Thousand Talent Plan’.
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