Relationship Between The Simultaneous Holding of Equity and Debt "Dual Holders" and Corporate Social Responsibility Disclosure

This thesis examines whether there is a substitute or complementary relationship between the simultaneous holding of equity and debt “dual holders” and corporate social responsibility disclosure “CSR disclosure”.

Literature about dual holder’s firms in the same company is a relatively new phenomenon. Debt holders and equity holders have diverse interests in the company. Debt holder’s intention is to get interest income on the debt plus they may get a fixed or floating charge as an additional security. They are also in the first row to be re-paid before ordinary and preference shareholders in case of liquidation. Comparatively, equity holders are with an ownership interest in a business and their advantage is to get a dividend. The principal-agent problem may occur since the two parties have different interests. This also creates problems such as asymmetric information and moral hazard.

According to the trade-off theory of capital structure, to maximize the value of a firm, the firm needs to choose an optimum debt-equity mix. Highly levered companies can simply insolvent and the firm value might be lost in bankruptcy. Thus, the trade-off theory emphasizes the benefit of debt which is the tax benefit should be traded off in contrast to the increase in insolvency costs that result from taking on higher debt levels.

The firm choice of capital structure will signal important information to the market. The signaling theory also states managers vary their preference on the issuance of debt and equity based on the information asymmetries between firm management and shareholders. Managers issue debt and equity accordingly based on the information they receive. When managers know the firms are undervalued, they will issue debt first and then after issue equity. On the other hand, if management believes that their firm is overrated, they will issue equity first and then debt to convey to the market that the firm will have acceptable cash flows.

Myers & Majluf (1984) in their seminal work on pecking-order theory illustrate that the insiders of the firm who have more knowledge than the investors of the firm which have limited information, so that the equity of that firm may be mispriced. Thus, to circumvent the adverse selection cost it might be imperative to finance the firm internal financing or debt financing which results in pecking order financing. Pecking order theory explains that the leverage of the company presents the past profitability as well as the future investment prospects of the companies. The reason that investors are holding debt and equity simultaneously is mainly dual holding moderate the conflict of interest between creditors and shareholders. In addition to this, the dual holders have an advantage of access both publicly available and non-public information of the firm. This allowed them to have privilege over firms that with lower default risk for borrowing. Dual holders with significant equity stakes have also an advantage of information about the firm financial status with the aim to reap gains or avoid losses. Myers & Majluf (1984) have stated that the debt to equity ratio of a company indicates how the company is financed along with the degree of information asymmetry. However, several studies also show that information asymmetry need not result in a preference for debt over equity. Akins et al. (2012) also, show that the pricing of information asymmetry drops when the number of insider investors in the firm grow. It is because whenever the number of informed investors in a firm increases the price becomes more representative of the company’s assets, hence it reduces the price of information asymmetry.

Dual holding mitigates the conflict between shareholders and debt holders’ interests since both parties obtain information on equity and debt side of the company. Dual holding also reduces information asymmetry because of the dual holder act as a mediator. Nowadays, investors take into consideration the firms’ CSR disclosure as one of the criteria in their investment decisions. CSR define as ‘‘the firm’s considerations of, and response to, issues beyond the narrow economic, technical, and legal requirements of the firm to accomplish social and environmental benefits along with the traditional economic gains which the firm seeks. Disclosure has better quality when it gives useful information to external users. Accordingly, it is also expected that a high level of governance corporative related to high levels of CRS disclosure. CSR disclosure is very important in the capital market because investors keenly invest in the company which discloses CSR. It also increases the good image of the company as well as a key guide for sustainable business. Thus, it increases the stock price of the company. CSR performance may be related to increasing productivity and financial performance because it indicates the firm is in good association with key stakeholders.

Cho et al. (2013) indicate that firms with a good CSR performance reduce information asymmetry, Dhaliwal et al. (2011) underscore that the CSR disclosure following with a good CSR performance decreases information asymmetry of the firm. To study the relationship between CSR and information asymmetry, following prior researchers we have used bid-ask stock price spread as a proxy as a measure of information asymmetry. We have also further used volatility and return data of stock price.

CSR information ethical corporate behavior is not just a cost driver but also helps to mitigate the information asymmetry that may impact negatively on a company’s reputation.

This thesis evaluates weather dual holdings can influence CSR disclosure of a firm using mainly empirical data research method. Literatures argued firms holding debt and equity simultaneously may have greater information transparency and lower spread (Jiang et al. 2010). Others argued dual holders may invest on CSR in order to show their concern to the global environment so that they will be counted as a good citizen and it will increase their reputations. However, Lopatta et al. (2016) argued that dual-holders with increased involvement in syndicated loans (previously restricted to banking institutions), these dual-holders have appeared as a new group of informed investors. This is largely owing to their direct access to the borrower’s timely financial information. Besides, Peyravan (2016) showed that dual-holders expected to trade on firm-specific financial information that is not publicly available, that may increase information asymmetry.

This study may contribute to the literature of dual holding and CSR disclosure by providing demonstrable evidence that dual holders have better CSR disclosure due to lower information. It can be also used for financial analyst and other stakeholders who are interested in the topic. We may contribute mainly to the literature of dual holding firms and CSR disclosure debate by offering the explanation that why dual holder firms have better CSR disclosure score than non-dual holder firms or vice versa. To gain a better information about the CSR disclosure score, we follow a more complex approach to sustainability reporting. The measure of this new sustainability reporting disclosure from a combined score comprising nine different reporting items emanates from Asset4 database that is relevant to stakeholders. The same database is also used by other researchers as an important indicator for stakeholders. We believe that these nine-items properly reflect the quality of the CRS score used in this study since the selection of the items has gone through a robust test. We have applied a regression model to study the relationship between CSR disclosure and dual-holdings using data from various sources, such as DealScan, Thomson-Reuters, Center for Research in Security Prices (CRSP) database, and COMPUSTAT global database for the sample period 2001 to 2017.