Reform, Financial Systems and Legal Frameworks
The CRC Series on Competition, Regulation and Development
Edited by Thankom Gopinath Arun and John Turner
Chapter 5: The Relationship between Debt Structure and Firm Performance in India
Sumit K. Majumdar and Kunal Sen INTRODUCTION A central issue in corporate governance is the nature of the relationship between suppliers of finance and managers of firms. In particular, the literature asks the question: how do suppliers of finance ensure that the managers of firms do not steal the funds they supply and invest in bad projects? Much of the discussion on how suppliers of finance monitor managers has been confined to the more advanced economies (Mayer, 1990; Singh, 1995; Shleifer and Vishny, 1997). There is relatively little knowledge of financier-manager relationship in developing countries. Moreover, much of the discussion of this relationship has focused on suppliers of equity, rather than on suppliers of debt (Barton and Gordon, 1988; Bettis, 1983; Bradley et al., 1980; Hoskisson and Hitt, 1994; Majumdar and Chhibber, 1999; Titman and Wessels, 1988). In this chapter, we study the implications of debt structure for firms’ performance in India. Firms in India are very highly leveraged, with the mean debt equity ratio of the firms evaluated exceeding two times or 200 per cent of the nominal equity values. This phenomenon is a function of the soft-budget constraints that have been perpetrated in Indian industry over several decades (Majumdar, 1998). The large presence of debt in the capital structure of Indian firms indicates that the extent of the influence debt holders in India have on firms’ performance is particularly relevant in the Indian context. The rest of the chapter is in four parts. The next part provides an...
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