The effect of ownership structure on investment decisions under exogenous shocks

• Published date: 01 November 2022
• Author: Cristian Ramírez,Jorge Tarziján,Gustavo Lagos
• Date: 01 November 2022
• DOI: http://doi.org/10.1111/corg.12432

SPECIAL ISSUE ARTICLE

The effect of ownership structure on investment decisions

under exogenous shocks

Cristian Ramírez

1

| Jorge Tarziján

1

| Gustavo Lagos

2

1

School of Management, Pontificia

Universidad Cat

olica de Chile, Santiago, Chile

2

School of Engineering, Pontificia Universidad

Cat

olica de Chile, Santiago, Chile

Correspondence

Jorge Tarziján, School of Management,

Pontificia Universidad Cat

olica de Chile,

Vicuña Mackenna 4860, Santiago, Chile.

Email: jtarzija@uc.cl

Funding information

ANID FONDECYT Iniciaci

on, Grant/Award

Number: 11201127

Abstract

Research Question/Issue: We assess how ownership concentration influences the

sensitivities of expansion investments and maintenance investments to changes in a

firm's cash flow. We find the causal effect by exploiting the exogenous variation in

the price of a firm's product. We also evaluate whether state versus private owner-

ship affects the impact of ownership concentration on investment–cash flow

sensitivities.

Research Findings/Insights: Using detailed data from 134 major copper mines oper-

ating in 29 countries over a 17-year period, we show that a more concentrated own-

ership increases the sensitivity of expansion investments to changes in a firm's cash

flow, while we do not detect a significant effect for maintenance investments. We

also find that state ownership negatively moderates the effects of ownership concen-

tration on the expansion investment–cash flow sensitivity.

Theoretical/Academic Implications: The findings improve our understanding of own-

ership structures and show the nuances of these structures when different owner-

ship features are combined in the assessment of investment sensitivities.

Practitioner/Policy Implications: The asymmetric effects of ownership structures

on different investment sensitivities call for a more fine-grained analysis of incen-

tives, benchmarking, and information disclosure policies. This issue is especially

relevant in state-owned enterprises (SOEs) and in firms with a low ownership

concentration.

KEYWORDS

investments, ownership concentration, state ownership, exogenous shocks, copper mining

1|INTRODUCTION

The allocation of capital in firms is a fundamental question in cor-

porate finance and strategic management (e.g., Bardolet

et al., 2011; Sengul et al., 2019; Stein, 2003). An important driver

of how capital is assigned to different uses is a firm's ownership

structure (e.g., Chen et al., 2017; He & Kyaw, 2018; Lee, 2005).

There are two important dimensions of this structure: the owner-

ship concentration (OC) and whether there is state or private own-

ership (Sapienza, 2004). However, despite its relevance, the role of

ownership structure in investment decisions still needs to be

empirically tested (Fitza & Tihanyi, 2017; Gutiérrez &

Philippon, 2018).

In this article, we study how investments in maintenance and

expansion activities are affected by changes in a firm's cash flow

under different ownership structures. We find the effect by exploiting

the exogenous variation in the price of a firm's product. An exogenous

change in the price of a firm's product modifies the resources available

to the firm and its investment options, providing a quasi-natural

experimental setting for analyzing the effect of ownership structure

on investment behavior (Maksimovic et al., 2017). Our analysis

assesses whether investment–cash flow sensitivities are moderated

Received: 26 November 2020 Revised: 17 January 2022 Accepted: 24 January 2022

DOI: 10.1111/corg.12432

Corp Govern Int Rev. 2022;30:783–805. wileyonlinelibrary.com/journal/corg © 2022 John Wiley & Sons Ltd. 783

by OC and how this moderation is influenced by whether a firm is a

privately owned enterprise (POE) or a state-owned enterprise (SOE).

Thus, this paper attempts to gain incremental insights into corporate

governance by addressing two main research questions: (1) How OC

affects the sensitivities of expansion investments and maintenance

investments to a firm's cash flow and (2) whether the type of owner-

ship (state or private) affects the impact of OC on investment–cash

flow sensitivities. By showing that the combination of different own-

ership features induces different organizational responses to exoge-

nous shocks, we also seek to respond to calls for further research

uncovering firms' answers to environmental shocks (Lavie et al., 2010;

Lazzarini & Musacchio, 2018) and to calls to understand the effects of

some complex ownership structures on the impact of the country

institutional context on the relationship between investments and

cash flow (Federo et al., 2020; Organization for Economic Co-

operation and Development [OECD], 2019).

A relevant feature of our analysis is the separation of investments

into expansion and maintenance activities. Expansion investments

include the capital investments required to increase the production

capacity of a firm, including the addition of new facilities (Brook Hunt

Ltd., 2008). Maintenance investments include the capital expenditures

(CAPEX) required to maintain existing operations and production

levels. In other words, they are equivalent to the capital investments

required to keep the production capacity of existing operations

(e.g., Brook Hunt Ltd., 2008). Both types of investments are important

and compete for capital within firms (Sengul et al., 2019).

We hypothesize that by improving the monitoring capacity of

owners over managers and decreasing the intensity of principal–agent

problems, a more concentrated ownership increases the expansion

investment–cash flow sensitivity and decreases the maintenance

investment–cash flow sensitivity when there are exogenous changes

in the resources available to a firm. We also hypothesize that because

of a more diffuse objective function (e.g., Boubakri et al., 2013;

Lazzarini & Musacchio, 2018) and agency and incentive issues

(e.g., Chen et al., 2017), state ownership (SO) decreases the effects of

concentrated ownership on the sensitivities of expansion and mainte-

nance investments to variations in a firm's cash flow.

Our setting is the mining industry. We have comprehensive infor-

mation about the performance and characteristics of the largest cop-

per mines in the world, which are located in different countries and

have diverse ownership structures. We also have detailed information

on CAPEX on maintenance and expansion activities. The mining

industry provides a good setting in which to study how changes in the

cash flow available to a firm affect capital investments in maintenance

and expansion activities under different ownership structures for vari-

ous reasons. First, we can assess the moderating role of ownership in

investment–cash flow sensitivities by exploiting the exogenous varia-

tion in the price of a firm's product. Since copper mines sell a com-

modity and no mine accounts for a large share of the total quantity

sold in the market, it is reasonable to consider that—from the firm

perspective—prices are exogenously determined (Tilton &

Guzmán, 2016). Second, there are no variations in copper prices

across countries, i.e., changes in prices affect all mines at the same

time. Third, our dataset includes a period in which a significant shock

to copper prices is observed, providing a good opportunity to explore

the variation over time in our variables of interest. Fourth, because

copper mines have different ownership structures in terms of their

levels of concentration and SO (from entirely privately owned to

entirely state owned), we can analyze the moderating effect of SO on

investment decisions. Fifth, because of the characteristics of their

business, investments are important for mines (e.g., Marmer &

Slade, 2018).

Overall, the results presented in this article—which are robust to

different measures and specifications—suggest that investments are

greater (lower) when there is a positive (negative) shock to a firm's

cash flow. However, the magnitude of this effect depends on a firm's

ownership structure. More specifically, we find that a more concen-

trated ownership positively impacts the sensitivity of expansion

investments to changes in cash flow and has no impact on the sensi-

tivity of maintenance investments to changes in cash flow. We also

find that SO influences the previous results: a larger percentage of SO

decreases the positive effect of OC on the sensitivity of expansion

investments to cash flow. The differences we find cannot be

explained by changes in the main characteristics of mines (Kuang &

Zhu, 2019).

Our results are important for several reasons. First, the

asymmetries found in the sensitivity of investment behavior across

ownership types may affect firms' growth, risk profile, performance,

and competitive behavior (e.g., Arrfelt et al., 2015; Brown et al., 2009;

Gilje & Taillard, 2016). For example, firms that invest more heavily in

expansion activities have a higher likelihood of future innovation and

capability development (Zhou et al., 2017). Second, given that mainte-

nance investments can be associated with exploitation activities and

expansion investments with exploration activities, we contribute to

the dialogue about the exploration–exploitation relationship in differ-

ent corporate governance structures and respond to calls for empirical

research that identifies how this relationship reacts to exogenous

shocks (Lavie et al., 2010). Third, by differentiating between mainte-

nance and expansion investments, we tackle a largely ignored aspect

of capital allocation: the consideration that the analysis of resource

allocation needs to be decomposed into different uses and purposes

(Bardolet et al., 2017). Fourth, our results offer governance implica-

tions regarding the need of SOEs to disclose information about the

use of funds (Arrobbio et al., 2014) and to review the policies of the

board (including the nomination of independent members), the use of

benchmarks for capital and labor expenditures, and the setting of

higher power incentives to motivate investments when facing exoge-

nous shocks (Cutting & Kouzim, 2002). Fifth, given that our analysis

considers firms operating in countries with distinct levels of economic

development and confidence in institutions, we suggest that the insti-

tutional context can influence the role of OC and SO in the relation-

ship between investments and cash flow.

In summary, we seek to advance research on how ownership

structure affects important corporate variables such as investment

behavior in an international context. Prior research has found that dif-

ferent ownership structures differ in their monitoring effectiveness

784 RAMÍREZ ET AL.