ARE CAPITAL REDUCTIONS TO COVER LOSSES AND FOLLOWING SEASONED EQUITY OFFERINGS A PANACEA FOR RECOVERY?

This paper discusses the factors that affect the decisions made by firms between pure capital reduction to cover losses (firms with capital reduction) and capital reduction to cover losses with SEO (firms with SEOs) in Taiwan. The paper also discusses the factors that affect ROA (return on asset) and CAR (cumulative abnormal return) that result from the two decisions by using the Heckman two-stage estimation procedure for regression analysis. The results indicate that firms with smaller cash flow, a higher degree of capital reduction and worse credit ratings are more likely to conduct capital reduction to cover losses with SEO. When the debt level is higher and there is a lower price to book ratio before and after capital reduction, appropriate capital reduction can help to enhance the ROA after the capital reduction. A firm with SEOs has a stronger desire for recovery; those with greater control rights and lower earnings distribution rights have better ROA. These results of the two corporate governance variables differ from the views of traditional hypotheses. Before the capital reduction, higher earnings per share and stock returns are the main characteristics of the adverse market reactions to the announcement of capital reduction to cover losses. A higher level of capital reduction and an increased cash flow ratio of a firm with capital reduction lead to a more positive market reaction. All of the firms that use capital reduction to cover losses have better operating and stock performances after the capital reduction.