The relationship between risk management and capital structure of public listed companies in Malaysia

Abstract

This paper aims to explore the link between risk management and capital structure decisions in Malaysian PLCs. While traditional capital structure theories focus on tax shields, bankruptcy costs, and information asymmetry, the strategic planning of risk management in influencing firm financing decisions is often not mentioned explicitly, especially in emerging markets. Building on risk management theory and elaborating findings from the banking literature, we argue that good risk management practices allow firms to achieve an optimal capital structure through reallocation of risk rather than outright deleveraging. This article introduces two innovative ideas of Risk Management Sophistication and Financial Flexibility into a common theoretical structure. Risk Management Sophistication reflects the breadth and intensity of integration into decision making of risk management tools at the corporate level, and Financial Flexibility measures firms’ ability to access and adjust financing following a shock. The model suggests that the MP of a firm has a direct impact on its CS decisions and this relation is mediated by financial flexibility. By examining Malaysian PLCs, this study seeks to add to capital structure and risk management literature by grounding these interactions within an emerging market environment exhibiting institutional impositions and evolving governance regimens. The implicit companies’ group financing framework lays the theoretical foundation to the empirically testable categories and brings practical implications for corporate executives and policy makers regarding sustainable finance strategies.