Foreign Ownership ad Investment : Evidence from Korea

Introduction

• Korean equity market was opened to foreign investors in January 1992
• the investors allowed to invest up to 10 % of a firm stock and it is gradually increased and completely removed in May 1998
• 1992 à foreign ownership consisted of nearly 7% of the total value of equities listed on the Korean Stock Exchange
• 2002 à become nearly 36%
• The aim of this study is to shed light on the effect of foreign ownership on a firm’s investment
• If financial intermediaries consider that foreigners favor firms with low information asymmetry, the firms with high foreign ownership are able to raise external funds at low cost
• If foreign investors have better monitoring skills than domestic investors in developing countries, foreign firms have less managerial agency problems
• Hypotheses à cash flow sensitivity of investment is lower in firms with high foreign ownership than in firms with low foreign ownership
• The main empirical findings in this study are :
1. cash flow sensitivity of investment significantly decreases as foreign ownership increases
2. the effect of foreign ownership on financial constraints became stronger after the complete opening of Korean equity market to foreigners in 1998
• These findings imply that open financial market help relax financial constraints faced by firms

The Findings from Research

• Using firm level data, it was found that cash-flow sensitivity of investment decreases as foreign ownership increases
• This implies that foreign ownership improves a firm’s accessibility to external finance
• This finding was interpreted as evidence for a potential benefit of open financial markets
• However, the result does not suggest that developing countries should entirely open their stock market to foreign investors because many countries have experienced severe instability in capital markets after abruptly opening their stock markets
• These findings simply suggest that foreign ownership play a role in reducing financial constraints on firms, and thus improves accessibility of external financing for investment
• In addition to capital inflows, the relaxation of the information asymmetry can also be a potential benefit of open financial markets