Announcements Effect of Corporate Bond Issuance and its Determinants

This study aims to investigate the effect of bond issuance announcements and to determine the company characteristics that could influence this effect. The findings reveal positive cumulative average abnormal returns following bond issuances, indicating that the market considers bond offers to be favorable news. Nevertheless, cross-sectional regression analysis shows an insignificant relation of company profitability, growth opportunities, asset tangibility, size, and managerial ownership with cumulative abnormal returns. The results confirm that there is a signaling effect of bond issuance announcements and that this effect is not affected by company characteristics.


Introduction
In the past, companies in many emerging countries were interested in borrowing from banks (Luengnaruemitchai & Ong, 2005). However, the interest rate charges of banks are relatively high, and they are usually reluctant to issue loans with long maturities (Eichengreen, 2004). As an alternative, companies can issue long-term bonds at low interest rates (Navarrete, 2001) and deduct interest payments as business expenses. The investigation of bond offerings to the public has been an interesting area of academic corporate finance research because bonds are gradually becoming an important corporate financing alternative.
According to a report by the Bank for International Settlement (2007), long-term interest rates may not be competitively determined and thus may not reflect the true cost of funds in economies lacking well-developed local currency bond markets. Hence, the concerted development of local currency bond markets has become a major objective of financial policy in many parts of the world. Well-functioning capital markets are fundamental for sustainable growth. In particular, deep and liquid local currency bond markets play a key role in the financial stability and economic development of a country. They ensure greater access to capital across an economy, provide stability and diversification of savings and investments, and reduce the economy's susceptibility to external shocks.
In the 1970s, the Malaysian government started issuing bonds to meet the massive funding needs of the country's development projects; this marked the start of the Malaysian debt securities market. In the mid-of 1986. This was the first step in developing the debt securities market in this country. The bond market in Malaysia further gained attention in 1990s, when conventional bank borrowing was found to be inadequate for funding long-term infrastructure and development projects by the private sector. The Malaysian government therefore increased its effort to develop corporate bond markets in order to offer the private sector an alternative source of financing and with the hope of helping to reduce funding mismatches (Ibrahim & Wong, 2005).
The development of the bond market from an inactive to a developing market can be seen in Table 1, which shows that the bond market is becoming a larger source of borrowed funds than the banking system and the equity market. More than 50% of the funds in the capital markets and banking system were raised through the issuance of bonds, whereas less than 30% were raised from bank borrowings (except in 2004) and less than 20% were raised from equity issues.
As the bond market becomes the major source of funds, there is a possibility that it could affect the equity market. As noted by Gebhardt, Hvidkjaer, and Swaminathan (2005), bonds and stocks have the same underlying operating cash flows and are affected by the same company fundamentals. Therefore, bonds cannot evolve independently of equities. Thus, some correlations between bonds and equity market behavior are expected. However, there is still little research in this area. The present study aims to address the impact of bonds on the equity returns of the issuing compa-nies, which still an under-researched subject, especially in emerging markets such as Malaysia. Thus far, mixed results were found by those who have attempted to explore this subject matter, such as Kapoor and Pope (1997) and Lewis, Rogalski and Seward (2001) in the US market, Abhyankar and Dunning (1999) in the UK market, Schramade (2005) in the Dutch market, Carlsson, Holm, and Sello (2006) in the European markets, and Martel and Padron (2006) in the Spanish market.
Hence, research analyzing the bond issuance effect on share price performance and examining the cross-sectional determinants of this effect for listed companies in Malaysia is needed.
The following section presents a literature review of underlying theories and prior empirical evidence, followed by the research design in section three. The analysis of the results is subsequently presented in section four. Finally, section five concludes the study and suggests some possible future research areas.

Underlying theories and empirical evidence on the effect of bond issuance and its determinants
According to Lewis et al. (1999), corporate events often lead to changes in the trading activities of a company's common stock. Though Fama and French (1998) argue that a company's financing decisions have no effect on its market value and thus that security holders are indifferent to debt versus equity financing, their argument relies entirely on the existence of a perfect capital market and assumes that companies This argument is consistent with Modigliani and Miller (1958), who suggest that company value and debt level are independent. In contrast, Masulis (1983) found that changes in stock prices are positively related to leverage changes, indicating that company value is positively affected by changes in debt level. However, Masulis (1983) did not address the notion of risk. Financial leverage could increase a company's value but also increases a company's risk. Masulis (1983) showed that when companies increase their use of leverage, returns and values can be magnified. Ross (1977) demonstrated that a change in financing policy changes investors' perceptions of a company and is therefore a market signal. Signaling theory is based on a strong assumption that corporate managers are better informed about their companies than their creditors or investors. This indicates that they are in a better position to foresee their companies' future cash flows. Any signal they send suggests that cash flows that are better than expected may enable an investor to create value. Investors are therefore constantly watching for these types of signals. Ross (1977) affirms that the financial structure of a company provides information about its financial situation and company quality and that the values of companies will increase with their levels of leverage.
Higher debt ratios could signal positive management expectations concerning future cash flows.
In contrast, Myers and Majluf (1984), and Miller and Rock (1985) showed that the announcement of new external financing conveys unfavorable information, which has a negative impact on the market. Myers and Majluf (1984) concluded that the market reacts negatively to a company's external financing by arguing that the issuance of a security will create demand for a discount in order to hedge against the risk that the security is overvalued. Similarly, Miller and Rock (1985) suggested that a company's decisions about obtaining funds reveal negative information about future internal financing. Furthermore, according to Myers and Majluf (1984), in an environment with asymmetric information, shareholders will interpret risky security offerings as a signal that the issuing company is overvalued. The more sensitive a security's payoff to the issuing company value, the more skeptically shareholders will react upon its announcement.
Conflicting empirical results are found for changes in company value and return. Ammann, Fehr, and Seiz (2006) and Chen, Dong, and Wen (2005) found significant negative abnormal returns following the issuance of bonds. In contrast, Martel and Padron (2006) registered positive abnormal returns after bonds issuance.
For the Japanese market, Kim and Stulz (1992) found -0.23% stock price reactions to bond issue announcements. They attributed this result to tax advantages in offshore markets. Due the conflicting findings in prior studies, more empirical evidence is required.
Six key variables are commonly used in previous studies to examine the influence of company characteristics on the bond issuance effect: company size, asset tangibility, profitability, growth opportunities, business sector, and managerial ownership (Rajan & Zingales, 1995;Lee et al., 2000;Hovakimian et al., 2004;Buferna, 2005;Guha & Kar, 2006;and Abor, 2008). Rajan and Zingales (1995) found that the determinants of capital structure that have been reported for the US, i.e., company size, growth, profitability, and tangible assets, are also important for other countries. spectively. Stein (1992) stated that company size could be considered to be a proxy of the degree of information asymmetry because larger companies are more likely to have greater analyst coverage and to undergo greater scrutiny by institutional investors. In addition, company size could also be a proxy of financial distress costs. In either case, cumulative abnormal returns are expected to be positively related to company size. On the other hand, several previous empirical works investigating the impact of size did not find any correlation with investor reactions, including De Roon and Veld (1998), Abhyankar and Dunning (1999), Lewis et al. (1999, 2003), and Ammann et al. (2006. Brennan and Kraus (1987) and Brennan and Schwartz (1988) suggested that announcement period abnormal returns were negatively related to credit quality and firm value but positively related to investment policy, whereas Green (1984) showed that announcement period abnormal returns will be positively related to future growth opportunities after controlling for differences in corporate investment policy shifts and underinvestment. This is further supported by Lewis et al.  (2004) in Western Europe. In contrast, Stein (1992) found that profitability is inversely correlated with the probability of the occurrence of financial distress. Low profitability not only increases anticipated financial distress costs but also implies higher risk uncertainty and the greater probability of a shift to a riskier investment policy. Hence, a negative correlation is expected between the market reaction and the level of profitability.
Trade-off theory (Modigliani & Miller, 1963) suggests that companies with more tangible assets can incur high debt because of their ability to provide sufficient collateral and security to lenders. Bradley, Jarrel, and Kim (1984) asserted that companies that heavily invest in tangible assets also have higher financial leverage because they can borrow at lower interest rates if their debt is secured with these types of assets. As such, companies with more tangible assets may have an advantage over smaller companies in accessing debt markets and borrowing under better terms and conditions (Ferri & Jones, 1979;Wiwattanakantang, 1999).
According to agency theory, the principal-agent conflict can be mitigated by a larger ownership share held by managers. Jensen (1986) argues that the use of debt can reduce agency costs between managers and shareholders by reducing the 'free' cash available for managers to pursue their own interests. Therefore, companies with higher managerial ownership may not need to incur much debt financing because managers who own shares would most likely act towards increasing shareholder wealth. As noted by Jensen (1986), debt forces managers to disgorge cash rather than spend it on investments with negative net present values. This effect might be stronger for public debt than for private debt.

Research design
This study's sample comprises observations from public   (1999) is employed to make the necessary adjustment so that the multiple issues are aggregated into a single annual figure. In addition, an incremental approach is used to analyze the determinants of new debt issues (Hovakimian et al., 2001;Denis & Mihov, 2003). This approach allows for the identification of companies that have no outstanding debt securities at the time of issuance and therefore enables a more accurate investigation of the company variables that contribute to the debt securities issuance decision.
Event study is used to estimate and draw inferences about the impact of bond issuance on the issuing companies' equity market behavior. The issue date is used instead of the announcement date because the issuance of bonds is generally associated with major corporate events, as evidenced by the 60% of bonds issued for new investment and merger and acquisition (M&A) activities in 2007 (Bank Negara Malaysia, 2007). When the announcement was initially made, the major corporate activities were most likely of higher concern to the market and its reaction can therefore be attributed to the corporate news on M&A or investment activities.
As such, it is believed that those earlier announcements indicated more concern over the major corporate events rather than their accompanying financing choices. The actual effect on the financing choice would be felt only upon the issuance announcement. Moreover, according to Kapoor and Pope (1997), it is appropriate to use the issue dates to avoid the problem of uncertainty because some announced proposed bonds are withdrawn. Market reaction therefore may not occur until just before the issue date. This is further supported by Chen et al. (2005), who found that only one-third of announced debt issuances were successfully issued.
The investigation window is from day t=-60 through day t=+60. The pre-event investigation window therefore ranges from day t=-60 to t=-1 and the post-event investigation window ranges from day t=+1 to t=+60.
The confounding effect is not an issue because companies with major corporate events that are not associated with bond financing are excluded from the sample.
This study uses daily data to compute abnormal returns because this approach provides smaller standard deviations than using monthly returns (Brown & Warner, 1985). The use of daily returns is potentially more effective in that it permits researchers to take ad-vantage of precise information about the specific day of the month on which an event takes place. In accordance with Martel and Padron (2006), the use of daily data reduces the possibility of other types of news being included in the effect. Likewise, Kothari and Warner (2006) also state that the use of daily rather than monthly security return data permits more precise measurement of abnormal returns and more informative studies of announcement effects. The present study examines market behavior during the 60 days before and after the event day in accordance with Abdullah (1999) riod. For each sample security, the return on security i (R i,t ) for time period t relative to the event is: where R m,t is the market return at time t, as calculated from a market portfolio or a market index, and e i,t is the component of returns that is abnormal or unexpected. The MAR model assumes that α = 0 and β = 1. Given this return decomposition, the abnormal return, e i,t is the difference between the observed return and the market return: Equivalently, e i,t is the difference between the return that is conditional on the event and the expected return that is not conditional on the event or the market return. Thus, the abnormal return is a direct measure of the (unexpected) changes in company value and returns associated with the event.
Following MacKinlay (1997), the abnormal return observations must be aggregated to draw general inferences related to the event. The aggregation is made along two dimensions: through time and across stocks.
The following average company-unique return, in this case the average abnormal return (AAR), is estimated for each day surrounding the issuance of bonds: where AAR t equals the average abnormal return for the number of bond issues N examined in a given day t.
The calculation is performed for the whole event period of 60 days before and after the bonds offers. A ttest is then calculated for each event day to see whether there is a significant effect due to the bond offers. The AAR would then be summed throughout the event days to form the cumulative average abnormal return (CAAR) presented in equation (4): It is expected that the value of CAAR is zero in the absence of abnormal performance. Hence, a t-statistic is performed on the pre-and post-issue estimates of the CAAR over different intervals surrounding the event period.

Multiple regression technique
To explain the reactions of investors to bond issues, previous studies have chosen to focus on the various company characteristics that presumably contribute to such reactions. There are a total of five independent variables used in this study: profitability, asset tangibility, company size, growth opportunities, and managerial ownership. Data for profitability, asset tangibility, company size, and managerial ownership are extracted from the annual reports of issuing firms one year prior to the bonds issuance whereas data for growth opportunities are taken from two years prior to the issuance. This is consistent with the methods employed in previous studies, such as Rajan & Zingales (1995), Lee at al. (2000), Devic & Krstic (2001), Hovakimian et al. (2004), Isachenkova & Mickiewicz (2004), Pandey (2004), Buferna (2005, and Guha & Kar (2006). The dependent variable used in this study is cumulative abnormal returns (CAR), which is obtained by summing up the abnormal returns of each of the 100 observation from day t=-60 to t=+60. The following regression model is used in the study: CAR i = α + β i1 SIZE + β i2 PROFITABILITY + +β i3 TANGIBILITY + β i4 GROWTH + β i5 OWNER + ε (5) where Company size [SIZE] = Natural logarithm of total sales (Titman & Wessel, 1988;Rajan & Zingales, 1995;Devic & Krstic, 2001;Gaud et al., 2005).

Findings and discussion
As seen in Table 2, profit margins range from -55.5% to 19.5%, with an average profit margin of 4.7% among the 100 sample companies. This variable has the lowest and ranges from 0.6% to 91%, with an average of 45%.
Managerial ownership ranges from 0% to 64.67%, with an average of 11.5%. Finally, the bond offers among the 100 sample companies range from RM1.9 million to RM2.21 billion. On average, the bond offer amount is RM225 million (USD1.00 = RM3.11). Figure 1 presents the cumulative average abnormal return (CAAR) for bond issuers. Bond issuers generally experience an increasing CAAR trend over the 60 days before (t=-60) the event day or the bond issuance date (t=0) and over the first 10 days (t=+10) of the postevent period. There was a decline in CAAR from 60 days to 55 days before the event date when there were abnormal losses. Thereafter, the cumulative average abnormal return surged to a positive value starting from day t=-45, fluctuated between 1% and 3%, and finally increased substantially after day t=-1, one day prior to the event day. After the event day, the CAAR  continued to rise for three days and finally reached a peak of 6.84% on day t=+9. However, immediately after the ninth day, the CAAR began to show a declining trend, dropping to a low of 4% at day t=+23. The CAAR rose again after day t=+24 and fluctuated between 4.5% and 5.5% until 45 days (t=+45) after the issuance date, but failed to be sustained thereafter.

Event study results
To examine the null hypothesis of whether there are significant cumulative average abnormal returns, a ttest is carried out over different intervals and the result is shown in Table 3 Ross (1977), which suggests that increased debt levels convey positive news. Market participants perceive that higher debt levels show insiders' confidence that future cash flows will increase to service the higher debt levels. Furthermore, Ross's (1977) signaling model also states that the information asymmetry between a company and outsiders leads the former to make certain changes in its capital structure that could change the relative position and/or power of capital providers (e.g., stockholders and debtors). Thus, the equity market reacts according to the changing capital structure. The finding of this study does not support the implication of Myers and Majluf 's (1984), and Miller and Rock's (1985) asymmetric information model, which suggests that an announcement of external financing signals that a company's stock is overvalued, causing negative stock price reactions. In contrast, the higher leverage is a signal that a company is confident about its ability to meet interest obligations and thereby indicates its ability to generate future cash flows, which ultimately translates into a higher company value. This result contradicts the studies of Abhyankar and Dunning (1999), Ammann et al. (2006) and Chen et al. (2005), who found negative bond issuance effects. Nevertheless, the positive abnormal returns support the findings of De Roon and Veld (1998), and Martel and Padron (2006), who demonstrated that the market reacts positively and significantly to debt issue announcements.

Cross-sectional regression results
Both correlation and multiple regression techniques are used to examine the relationship between bond issuance effects and company characteristics. The correlation matrix in Table 4 shows that company profitability, growth opportunities, asset tangibility, company size, and ownership structure are not associated with cumulative abnormal returns. However, there is a significant correlation of -0.692 (α < 0.01) between PROFITABILITY and TANGIBILITY, and of 0.413 (α < 0.01) between PROFITABILITY and SIZE_LN.
Nevertheless, all associations are less than 0.70. Thus, it is likely that collinearity between the independent variables poses no threat to this study.
To ensure that no multicollinearity problem exists, tolerance statistics and variance inflation factors (VIFs) are calculated and reported in Table 5. Although the target value is largely debated, a tolerance value of 0.50 or higher is generally considered to be acceptable. In terms of the VIF statistic, some researchers use a VIF of five as a critical threshold whereas others use a VIF of 10. Based on these guidelines, the multicollinearity problem is not a threat in this study. Table 6 presents the findings of the multiple regression analysis. The lack of correlation of the explanatory variables with the dependent variable is further supported, whereas the F-test shows an insignificant model, indicating a weak influence of company characteristics on the bond issuance effect. The R-squared value of 4.4% also implies the lack of power of the company profitability, tangibility, growth opportunity, size, and ownership structure variables to explain the variation in cumulative abnormal returns. In other words, the finding implies that the positive effect of the abnormal returns is solely caused by the bond issuance announcement. Hence, investors could buy the stock of a bond issuer to gain abnormal returns. However, this is only possible by investing in approximately 100 companies. The regression result is not consistent with the argument of Green (1984)   There are limitations of this study. First, the results could be affected by other factors. As highlighted by Davidson, Glasrock andSchwartz (1995) andLewis et al. (2003), abnormal returns depend on the design of a corporate bond. Thus, it is recommended that the types of debt securities, as well as the design and features of debt securities, such as maturity, coupon rate, puttable or callable features, convertible or straight debts, reputation of the underwriter, and purpose of the debts and bond offers, be incorporated into future studies. Furthermore, different proxies for the independent variables used in the study could also be considered. In addition, the sample could also be aggregated based on business sector classifications. The effect of bond issuance announcements might differ for companies in different sectors. Given the small sample used in this study, this type of approach was not possible.