Political connections, institutional monitoring and the cost of debt: evidence from Malaysian firms

Abstract

Purpose

The purpose of this paper is to examine the main and joint effects of politically connected firms (PCFs) and institutional monitoring on the cost of debt.

Design/methodology/approach

Based on a panel data set of Malaysian politically connected and non-politically connected listed firms from 2002 till 2015, the author performs regression analysis. To address the issue of self-selection, the PCFs’ equation is estimated, following Lennox et al. (2012) and Heckman (1979).

Findings

This paper finds that PCFs are associated with higher cost of debt. However, the positive association between PCFs and the cost of debt is attenuated by higher institutional ownership (IO). Further test reveals that monitoring by institutional investors is heterogeneous from the perspective of domicile. Local institutional investors are associated with lower cost of debt, particularly in PCFs, while foreign institutional investors are associated with higher cost of debt.

Originality/value

The author shows that firm outcome, i.e. cost of debt in emerging markets can differ from advanced markets due to different institutional setting. Additionally, different types of political ties can produce different firm outcomes: GLCs are associated with lower cost of debt as opposed to connected firms based on personal ties. However, agency problems in PCFs can be alleviated through effective institutional monitoring. Consistent with geographical proximity theory, local institutional investors play a more effective monitoring role in Malaysian listed firms, thus lowering cost of debt. Overall, the results contribute to deeper understanding on variation in firm outcomes between emerging and advanced markets.

Citation

Tee, C.M. (2018), "Political connections, institutional monitoring and the cost of debt: evidence from Malaysian firms", International Journal of Managerial Finance, Vol. 14 No. 2, pp. 210-229. https://doi.org/10.1108/IJMF-07-2017-0143