The Change in Corporate Transparency of Korean Firms After the Asian Financial Crisis: an analysis using analysts' forecast data

• Author: Jinho Chang,Hyun‐Han Shin,Young Jun Cho
• Published date: 01 November 2007
• DOI: http://doi.org/10.1111/j.1467-8683.2007.00637.x
• Date: 01 November 2007

The Change in Corporate

Transparency of Korean Firms After

the Asian Financial Crisis: an analysis

using analysts’ forecast data

Jinho Chang*, Young Jun Cho and Hyun-Han Shin

Using analysts’ forecast error and forecast dispersion of f‌irms covered by the I/B/E/S database,

this study examines the change in information asymmetry of Korean f‌irms around the f‌inancial

crisis of 1997. Results show that the information asymmetry of Korean f‌irms is lower after the

f‌inancial crisis than before, implying that corporate transparency did, in effect, improve with

the change in business environment. In addition, this study f‌inds that chaebol f‌irms have

higher information asymmetry than non-chaebol f‌irm, and also that the corporate transparency

improvement of chaebol f‌irms is not higher than that of non-chaebol f‌irms in the post-crisis

period despite the reforms particularly targeted to chaebol f‌irms after the f‌inancial crisis.

Keywords: Asian f‌inancial crisis, analyst forecast error, analyst forecast dispersion, chaebol,

information asymmetry, corporate transparency

1. Introduction

When information asymmetry between a

f‌irm and its market is high, it is diff‌icult

for the market to evaluate or predict the perfor-

mance of the f‌irm. This increases uncertainty

about the f‌irm, thus decreasing its credibility in

the market. Hence, as the market knows little

about the f‌irm, investors lose conf‌idence as to

whether to invest in a new project of the f‌irm,

increasing that project’s f‌inancing costs (Healy

et al., 1995; Nanda and Narayanan, 1997;

Krishnaswami and Subramaniam, 1999).1This

is because f‌irms depend more on stock sales

than bank loans or reserved cash when f‌inanc-

ing a project, which increases the burden of

such f‌inancing to the degree that the f‌irms

themselves must persuade investors in the

market, f‌irst hand (Myers and Majluf, 1984;

Krishnaswami et al., 1998).2Voluntary disclo-

sures, therefore, such as investor relations,

become a kind of strategic behaviourof f‌irms to

reduce f‌inancing costs by mitigating informa-

tion asymmetry (Merton, 1987; Barry and

Brown, 1985; Glosten and Milgrom, 1985; Lang

and Lundholm, 1996).3

Before the Asian f‌inancial crisis in 1997,

Korean f‌irms under the government-driven

development policy were not particularlymoti-

vated to dissipate uncertainty or to increase

their credibility in eyes of the stock market.

Distorting the market mechanism, for example,

the Korean government provided various

supports and subsidies to f‌irms acting in line

with its export-oriented development policies

(Chang and Hong, 2000). Specif‌ically, as a

major stockholder in several national commer-

cial banks, the Korean government exercised

tight control over loans, dispensing low-

interest loans to f‌irms in export sectors and

in strategic industries. Under these circum-

stances, such f‌irms could easily access bank

loans based on government policies, reducing

the need to persuade investors with the release

of transparent information.

The International Monetary Fund (IMF)

identif‌ies both the low transparency and the

poor corporate governance of Korean f‌irms as

primary causes of the 1997 f‌inancial crisis in

Korea (Yoo, 2000; Joo et al., 2000). Kim (2000)

f‌inds low f‌irm transparency, in particular, to

have caused a loss of conf‌idence among foreign

*Address for correspondence:

School of Business, YonseiUni-

versity, Seodaemun-gu, Seoul,

Korea 120-749. Tel: 822-2123-

2513; E-mail: chang@yonsei.

ac.kr.

1144 CORPORATE GOVERNANCE

Volume 15 Number 6 November 2007

© 2007 TheAuthors

Journal compilation © 2007 BlackwellPublishing Ltd, 9600 Garsington Road,

Oxford, OX4 2DQ, UK and 350 Main St,Malden, MA, 02148, USA

investors, subsequently triggering the rapid

capital outf‌lows that brought on the f‌inancial

crisis. Since that time, and due to the demands

of the IMF, the Korean government has under-

taken a series of structural and institutional

changes within the business environment that

are thought to have created more incentives

for Korean f‌irms to mitigate their information

asymmetry. By developing the stock market,

for example, as well as reinforcing the global

rights of shareholders, f‌irms were provided

with far-reaching incentives to reduce their

information asymmetry. Ultimately, Korean

f‌irms began to realise the importance of prac-

ticing transparency, or credibility, in capital

markets. Nonetheless, there are no empirical

studies that investigate whether the overall

changes in the Korean business environment

after the f‌inancial crisis effectively contributed

to a decrease in information asymmetry, as

prior studies have only addressed the value

relevance of accounting information during

the economic shock.4However, such a study is

particularlyimportant because it can lead us to

understand how economic shock affects the

information environment of f‌irms.

In this vein, this study examines whether

the information asymmetry around Korean

f‌irms was effectively reduced following the

f‌inancial crisis. Information asymmetry, an

imposing element of corporate transparency,

ref‌lects the degree to which f‌irm-related infor-

mation is distributed unequally between a f‌irm

and its market participants or among market

participants. A decrease in information asym-

metry can be regarded as evidence for an

increase in corporate transparency. Here, we

measure information asymmetry using the

f‌inancial analysts’ forecast data included in the

I/B/E/S database because analysts’ forecast

activities can help us to understand those

behaviours of market participants that are

hard to observe directly in capital markets

(Nichols, 1989; Schipper, 1991). The accuracy

and the dispersion of analysts’ forecasts

ref‌lect the availability of f‌irm-specif‌ic infor-

mation being produced and distributed in

the markets. Therefore, analysts’ forecast

error and forecast dispersion can be used

as measures of information asymmetry

(Krishnaswami and Subramaniam, 1999).

In this study, following Krishnaswami and

Subramaniam (1999), by using analysts’ fore-

cast error and forecast dispersion, we examine

whether the increased incentives to improve

transparency after the f‌inancial crisis led to the

actual mitigation of information asymmetry

around Korean f‌irms.

In addition, by using analysts’ forecast

error and forecast dispersion, we also address

the following two research questions. Firstly,

we examine whether chaebol f‌irms have

higher degrees of information asymmetry

around them than non-chaebol f‌irms. Even

though chaebols have been alleged to be the

major culprit behind the lack of transparency

in the Korean economy, no test has been con-

ducted empirically conf‌irming whether or

not chaebol f‌irms are less transparent than

non-chaebol f‌irms. Secondly, we examine

whether chaebol f‌irms experienced greater

improvement in corporate transparency, after

the f‌inancial crisis, than non-chaebol f‌irms, as

a result of contracted internal capital markets

and improved monitoring. The contraction of

the internal capital markets of chaebols, for

example, should have provided more incen-

tives for chaebol f‌irms to improve their trans-

parency, due to increasing their reliance on

external capital markets. Thus, we hypoth-

esise that the magnitude of impact of changes

after the f‌inancial crisis on chaebol f‌irms

should be greater than the magnitude of

impact of changes on non-chaebol f‌irms.

This study makes a direct contribution to

understanding the effects of economic shock

on the information environment of the f‌irm.

Specif‌ically, in this study, the improvement of

the information environment yields a decrease

in the information asymmetry of that environ-

ment, which in turn implies the improvement

of corporate transparency. Further, this study

links prior studies of analysts’ forecast charac-

teristics to corporate transparency issues.

Finally, illuminating the effects of chaebol

membership on information asymmetry, this

study also makes a contribution to under-

standing the relation between the complexity

of an ownership structure and its respective

corporate transparency.

This paper is organised as follows: Section 2

summarises the overall changes in the Korean

business environment after the f‌inancial crisis.

Section 3 describes the changes to the internal

capital markets of Korean business groups as a

result of reforms particularly targeted to chae-

bols. Section 4 describes the data used and the

measurements of variables. Section 5 presents

the results of the empirical analyses. Section 6

shows additional tests for robustness and

alternative explanations. Finally, Section 7

summarises the conclusions.

2. Changes in the Korean business

environment after the f‌inancial crisis

2.1. Globalisation of the

business environment

Since the f‌inancial crisis, in response to the

signif‌icant demands of globalisation, the

THE CHANGE IN CORPORATE TRANSPARENCY OF KOREAN FIRMS AFTER THE ASIAN FINANCIAL CRISIS 1145

Volume 15 Number 6 November 2007© 2007 TheAuthors

Journal compilation © BlackwellPublishing Ltd. 2007