Considering listed firms in R&D-intensive industries in the 2000s, this paper examines whether financial factors and ownership structure explain R&D investment in Japan. It shows that the debt-to-total assets ratio had a significant, negative effect on R&D investment in the late 1990s, while the effect of the debt-to-assets ratio on R&D investment in the late 1980s was insignificant. We define these seven industries as R&D-intensive industries.5 The total R&D expenditure of the seven industries is 12.5 trillion yen, which accounts for 87% of the total sample in the Toyo Keizai data set.
We classify sample firms in the 1st or 2nd section of the Tokyo Stock Exchange as large firms if their consolidated assets in 1999 were ¥300 billion or more. The sample companies in the 1st or 2nd part of the Tokyo Stock Exchange are classified as small. However, a notable difference is the absence of the transportation equipment industry in the sample of Brown et al.
The total consists of all companies in the sample in the seven R&D-intensive industries described above. 9 Arikawa and Miyajima (2007) investigate changes in corporate finance and governance of Japanese companies in the 1990s. We construct an unbalanced group of publicly traded companies in seven R&D-intensive industries between 2001 and 2008.
Pooled Sample Estimates
Comparison of Large and Small Firms
This suggests that large firms at least partially finance their R&D investment from debt.13 For large firms, a one standard deviation (0.049) increase in debt scaled by total assets reduces R&D investment by 8%. Firms with limited assets do not have an optimal leverage ratio, and higher leverage leads to lower R&D investment. Thus, higher leverage monotonically raises the cost of capital of R&D investment, with the result that R&D investment falls.
For small firms, a one standard deviation (0.054) increase in debt relative to total assets reduces R&D investment by 3%. First, we investigate whether a firm with higher balance sheet leverage at the start of an investment decision is more likely to reduce R&D investment in period t when debt financing increases in period t-1. When firms increase debt financing by one unit, the marginal increase in the cost of debt is likely to be higher for highly leveraged firms than for lower leveraged firms because of the higher probability of default.
Columns (1) and (2) show the results when firms have a higher debt-to-asset ratio at the beginning of the sample period. We find that the coefficient of lagged debt is significantly negative in the regression. On the other hand, for firms with low debt in the initial period, the coefficient of lagged debt term and lagged square debt is insignificant.
Thus, for highly leveraged firms, increased debt financing leads to a reduction in R&D investment, while greater debt financing has no effect on R&D investment for low-leveraged firms.14 Among highly leveraged firms, one standard deviation (0.064) increase in debt scaled by total assets reduces R&D investment by 4.8%. Second, we explore how the negative relationship between delinquent debt and R&D investment varies among firms with different business risks, as measured by the number of business units for each firm. If debt financing leads to a reduction in R&D investment due to increased default risk, we would expect to see a weaker relationship between delinquent debt and R&D investment in firms with more units business.
When we introduce the interaction term between the delinquent debt and the indicator variable, equal to one if the number of business units in a firm is more than four, and zero otherwise, we find that the coefficient of the interaction term is significantly positive only for small firms (the results are not shown in the table). In fact, the magnitude of the coefficient is large enough to offset the negative effect of the delinquent debt on R&D investment.
Cash Flow and Financial Constraint
Columns (3) and (4) of Table 6 show the results for Large and Small firms respectively with firms in emerging markets. Consistent with our prediction, we find that the coefficient on contemporaneous cash flow is significantly positive for Small firms, while it is insignificant for Large firms.16 We therefore conclude that. Comparing the results between column (1) and (3), it is clear that firms listed on JASDAQ, Mothers and Hercules face financial constraints for R&D investment.
This result is consistent with the result for young US firms in Brown et al. We also find that the coefficient on lagged debt and the lagged square of debt are both negatively significant for large firms. In contrast, for small firms we do not find a significant result in terms of debt-related variables.
The result would suggest that small businesses, especially start-ups facing financial constraints, do not use debt financing for R&D investment because it is very expensive. Finally, we do not find a significant result for the lagged external equity coefficient, even if we add the “emerging” firms listed on the JASDAQ, Mothers, and Hercules stock exchanges. In the United States, Brown et al. 2009) point out that the provision of equity financing for young public companies in high-tech industries caused much of the R&D boom in the 1990s.
In Japan, we find no strong evidence to support the claim that the stock market is an important source of funds for technological development.
Ownership Structure and R&D Investment
The question naturally arises whether this change in ownership structure would affect R&D investments or not. One possibility is that myopic investors negatively impact R&D investments, which take a long time to generate revenues (Narayanan, 1985, and Stein, 1989). If investors are myopic and prefer immediate dividends, managers can take these myopic investors into account and pay dividends by reducing R&D investments.
In this case, companies with more myopic investors are more likely to underinvest in R&D.17. To study the effect of myopic investors on R&D expenditures, we add the foreign shareholding ratio and the interaction term between the contemporaneous cash flow and the foreign shareholding ratio. If foreign investors demand virtually excessive dividends, we would expect the interaction term to take positive coefficients.
We use companies listed on the 1st and 2nd sections of the Tokyo Stock Exchange, JASDAQ, Mothers and Hercules. First, the estimation results for small firms, column (1) and (2), show that although the coefficients of foreign equity shares are not significant, their interaction terms with cash flow have significantly negative coefficients. For these companies, therefore, foreign investors alleviate the financial constraints for investment in research and development.18 Second, for large companies, columns (3) and (4), we find that the coefficients of the shares of foreign shares and
17 It is also possible that investor preference is for high R&D investments, and that companies overinvest in R&D (Aghion and Stein, 2008). 18 We also test the institutional equity ratio, including both domestic and foreign institutional investors, in the same way and observe similar but weaker results, both in terms of the magnitude of the coefficients and their significance levels. In summary, we cannot find any evidence that large shareholdings by foreign investors force short-sighted behavior at companies.
Conclusion
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The sample consists of firms in the seven R&D-intensive industries listed on the 1st or 2nd section of the Tokyo Stock Exchange and young firms in the same industries listed after 1990 on the Tokyo Stock Exchange, Mothers, Hercules or JASDAQ. The industry classification is based on the Securities Identification Code Committee's 33 sectors (excluding financial sectors) (Syoken Code Kyogikai 33 Gyoshu). Among companies in the information and communication sector, we only look at companies in three main groups; Communications (37), Information Services (39), and Internet-based Services (40) in Division G: Information and Communications of Japan's Standard Industrial Classification.
Large companies are those listed on the 1st or 2nd section of the Tokyo Stock Exchange and had consolidated assets of ¥300 billion or more in 1999. Small companies are listed on the 1st or 2nd section of the Tokyo Stock Exchange and had consolidated assets of less than 100 billion yen in 1999. We classify companies on the 1st or 2nd section of the Tokyo Stock Exchange as Large if their consolidated assets are 300 billion yen or more in 1999.
We classify companies on the 1st or 2nd section of the Tokyo Stock Exchange as small if their consolidated assets are less than 100 billion yen in 1999. Companies are defined as young if they were listed after 1990 on the Tokyo Stock Exchange, Mothers, Hercules or JASDAQ. Large companies are listed on the 1st or 2nd section of the Tokyo Stock Exchange and had consolidated assets of ¥300 billion or more in 1999.
Small firms are listed on the first or second section of the Tokyo Stock Exchange and had consolidated assets of less than 100 billion yen in 1999.
