Does relative (absolute) efficiency affect capital costs?

• Published in: Annals of operations research Vol. 315; no. 2; pp. 1037 - 1060
• Main Authors: Mali, Dafydd, Lim, Hyoung-Joo
• Format: Journal Article
• Language: English
• Published: New York Springer US 01.08.2022; Springer; Springer Nature B.V
• Subjects: Accounting; Analysis; Business and Management; Business performance management; Capital costs; Combinatorics; Cost analysis; Cost of capital; Efficiency; Industrial efficiency; Methods; Operations research; Operations Research/Decision Theory; Risk management; S.I. : Business Analytics and Operations Research; Theory of Computation; United Kingdom; A1; DEA; WACC; M1; Cost of capital; M4; Risk; G1; G3; Firm efficiency
• ISSN: 0254-5330; 1572-9338
• DOI: 10.1007/s10479-021-04159-0

In this paper, we examine the effect of relative/absolute firm efficiency on weighted average cost of capital (WACC). Using a sample of Korean listed firms, we find that WACC is negatively associated with relative firm efficiency (operational performance) suggesting that firms with higher (lower) relatively efficiency are expected to pay lower (higher) capital costs. When we repeat our analysis using absolute firm efficiency (ROA), we do not find a statistically significant relationship. Our results suggest relative efficiency which is estimated as output (sales) divided by the resources that are directly under the control of management is assessed by capital providers and impounded into a firm’s capital costs. Absolute efficiency (ROA) which is estimated as sales divided by total assets is not. Our results suggest that simple accounting ratios used in the accounting literature are not considered as informative to explain borrowing costs compared to relative efficiency that captures managerial operational performance.