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THE RELATIONSHIP BETWEEN INFORMATION TECHNOLOGY (IT)
INVESTMENT AND FIRM’S FINANCIAL PERFORMANCE OF PUBLIC
LISTED COMPANIES IN MALAYSIA
FATIMA SANI STORES
A thesis submitted in fulfillment of the requirement for the
award of the Degree of Master of Science in Technology Management
Faculty of Technology Management and Business
Universiti Tun Hussein Onn Malaysia
JANUARY 2015
v
ABSTRACT
Significant amounts of resources have been and continue to be invested in
information technology (IT). Much of this investment is made on the basis of
assumption that returns will occur. Prior studies have shown that IT investment
increases firm’s performances and operational efficiency. Although, IT investment
by Malaysian public listed companies (PLCs) increases annually, but the investment
is still insufficient. Additionally, empirical studies and scientific research on IT and
firm’s performance in Malaysian PLCs are still lacking. The objective of this
research work is to examine the relationship between IT investment and firm’s
financial performance in Malaysian PLCs. Firm performance was measured by
revenue, return on investment (ROI) and return on assets (ROA). A panel data
analysis was applied to the data observed from 2009 to 2012. Data for three years on
IT investment and firm’s performance was collected from a sample of 90 firms via
annual reports. The result of regressing return on investment against IT investment
indicates that there is a relationship between IT investment and return on investment.
However, the result of regressing return on assets and revenue indicates that there is
no relationship between IT investment and return on assets, IT investment and
revenue respectively. The analysis provides useful implications for managers to
better understand the relationship between IT investment and firms’ performance so
that they can make wiser decisions to maximize the business value of their
investments.
vi
ABSTRAK
Sejumlah besar sumber yang signifikan telah dan sedang secara berterusan
dilaburkan di dalam bidang teknologi maklumat (TM). Pelaburan ini dibuat dengan
anggapan bahawa sejumlah keuntungan akan diraih. Kajian telah menunjukkan
bahawa pelaburan di dalam TM meningkatkan prestasi dan kecekapan operasi
sesebuah firma. Namun, walaupun pelaburan di dalam TM oleh syarikat awam
tersenarai (SAT) di Malaysia bertambah setiap tahun tetapi pelaburan itu masih
dilihat sebagai tidak mencukupi. Tambahan pula, kajian empirikal dan penyelidikan
saintifik berkaitan TM dalam kalangan SAT di Malaysia adalah masih kurang.
Objektif penyelidikan ini adalah untuk mengkaji hubungan di antara pelaburan TM
dan prestasi kewangan firma dalam kalangan SAT di Malaysia. Prestasi firma diukur
berdasarkan pendapatan, pulangan atas pelaburan dan pulangan atas aset. Analisis
panel data berpanel telah digunakan ke atas data yang diteliti dari tahun 2009 ke
tahun 2012. Data berkaitan pelaburan TM dan prestasi firma bagi tempoh tiga tahun
daripada 90 firma telah dikumpul berdasarkan laporan tahunan firma-firma terbabit.
Hasil analisis regresi di antara pulangan atas pelaburan dan pelaburan TM
menunjukkan bahawa terdapat hubungan di antara pelaburan TM dan pulangan atas
pelaburan. Walau bagaimanapun, hasil analisis regresi di antara pulangan atas aset
dan pendapatan dangan pelaburan TM menunjukkan bahawa tidak ada hubungan
antara pelaburan TM dan pulangan atas aset, dan di antara pelaburan TM dan
pendapatan. Hasil analisis memberikan implikasi yang memanfaatkan pengurus
untuk lebih memahami hubungan di antara pelaburan TM dan prestasi firma bagi
membolehkan mereka membuat keputusan yang berhemah untuk memaksimakan
nilai perniagaan di atas pelaburan yang dibuat.
vii
TABLE OF CONTENTS
CHAPTER TITLE PAGE
TITLE i
DECLARATION ii
DEDICATION iii
ACKNOWLEDGEMENT iv
ABSTRACT v
ABSTRAK vi
TABLE OF CONTENTS vii
LIST OF TABLES x
LIST OF FIGURES xi
LIST OF ABBREVIATIONS xii
1 INTRODUCTION 1
1.1 Introduction 1
1.2 Research Background 2
1.3 Problem Statement 5
1.4 Research Questions 8
1.5 Research Objectives 8
1.6 Scope of the Study 8
1.7 Significance of the Study 9
1.8 Structure of the Thesis 10
1.9 Definitions of Key Terms 11
1.10 Chapter Summary 11
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2 LITERATURE REVIEW 12
2.1 Introduction 12
2.2 Definition of Technology 13
2.3 Definition of Investment 14
2.4 Review of Relevant Theoretical Models 15
2.4.1 Theoretical Model of IT Resources 15
2.4.2 General Purpose Technology Theory 19
2.4.3 The Neoclassical Theory 20
2.4.4 The Resource - Based Theory 21
2.4.5 The Productivity Paradox Theory 22
2.5 Technology Investment 25
2.6 Definition of Information Technology 30
2.6.1 Component of Information Technology 32
2.7 Trends in Information Technology Investment 35
2.8 Benefits of Information Technology 37
2.9 Firm’s Financial Performance 41
2.9.1 Revenue 44
2.9.2 Return on Investment (ROI) 44
2.9.3 Return on Assets (ROA) 46
2.9.4 Control Variables 47
2.10 The Effect of IT Investment on Firm’s Performance 48
2.10.1 Relationship Between Investment in IT and ROI 52
2.10.2 Relationship Between Investment in IT and Revenue 54
2.10.3 Relationship Between Investment in IT and ROA 55
2.11 Research Framework 56
2.12 Chapter Summary 57
3 METHODOLOGY 58
3.1 Introduction 58
3.2 The Research Paradigm 58
3.3 Research Design 62
3.4 Data Collection 64
3.5 Sample Selection 65
3.5.1 Independent Variable: IT Investment 68
ix
3.5.2 Dependent Variables: Firm Performance 69
3.5.3 Control Variables 70
3.6 Panel Data Analysis 71
3.7 Summary 76
4 DATA ANALYSIS 77
4.1 Introduction 77
4.2 Research Question 1(What is the allocation of IT Investment from
the Company's Total Assets among Malaysian PLCs 77
4.2.1 Construction Sector 78
4.2.2 Finance Sector 79
4.2.3 Property Sector 80
4.2.4 Plantation Sector 80
4.2.5 Industrial Product Sector 81
4.2.6 Infrastructure Project Companies (IPC) 81
4.3 Research Question 2 (The Relationship Between IT Investment and
Firm’s Financial Performance) 83
4.4 Summary 89
5 SUMMARY AND CONCLUSION 91
5.1 Introduction 91
5.2 Reviews of Research Objectives, Hypotheses and Methods 91
5.3 Summary of Discussion and Findings 92
5.3.1 Research Question 1 92
5.3.2 Research Question 2 93
5.4 Contributions and Implications of the Study 95
5.5 Limitations and Future Research 96
5.6 Conclusion 97
REFERENCES 99
APPENDIX 110
x
LIST OF TABLES
TABLE NO. TITLE PAGE
1.1 Classification of Listed Companies from 2009 to 2013 3
1.2 Contribution of Manufacturing, Construction and Service Sector to GDP 3
1.3 Contribution of Manufacturing, Construction and Service Sector to
Employment 4
2.1 IT Assets and Performance Benefits 19
2.2 Classification of Technology 29
2.3 Performance Measures 43
2.4 Metric of Performance that Composes Firm Performance 50
3.1 Sample Size According to Industry Classification 67
4.1 Allocation of IT from Construction Sector 79
4.2 Allocation of IT from Finance Sector 80
4.3 Allocation of IT from Property Sector 80
4.4 The allocation of IT from Plantation Sector 81
4.5 The allocation of IT from Industrial Product 81
4.6 The Allocation of IT from IPC 82
4.7 Summary for the Allocation of IT from Six Sectors 82
4.8 Result of Model 1 84
4.9 Result of Model 2 85
4.10 Result of Model 3 87
4.11 Summary of Findings 89
xi
LIST OF FIGURES
FIGURE NO. TITLE PAGE
2.1 Theoretical Model of IT Resources 16
2.2 IT as an Investment Portfolio 17
2.3 Hard and Soft Investment Returns 45
2.4 Research Framework 56
3.1 Research Methodology Frameworks 63
4.1 The Allocation of IT by Sector 83
xii
LIST OF ABBREVIATIONS
ABC - Activity-Based Costing
AGV - Automated Guided Vehicles
AIS - Accounting Information System
AMT - Advanced Manufacturing Technology
AS/RS - Automated Storage and Retrieval System
ATM - Automated Teller Machine
BC - Bar Coding
CAD - Computer Aided Design
CAM - Computer Aided Manufacturing
CASE - Computer-Aided Systems Engineering
CIO - Chief Information Officer
CIM - Computer Integrated Manufacturing
CNC - Computer Numeric Control
DNC - Direct Numerical Control
COGS/S - Cost of Goods Sold Per Sales
CRM - Customer Relation Management
EDI - Electronic Data Interchange
EPS - Earnings Per Share
ERP - Enterprise Resource Planning
FEM - Fixed Effect Model
FMS - Flexible Manufacturing System
GLS - Generalised Least Squire
GMM - Generalised Method of Moments
GPTs - General Purpose Technologies
GRP - General Resource Planning
GROA - Growth in Return on Assets
GREV - Growth in Revenue
GROI - Growth in Return on Investment
HIR - Human IT Resource
HRS - Human Resource System
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ICT - Information and Communication Technology
IPC - Infrastructure Project Companies
IT - Information Technology
ITAA - Information Technology Association of America
IRR - Internal Rate of Return
IND - Industry
LNTA - Natural Logarithm of Total Assets
MAP - Manufacturing Automation Protocol
MRP - Material Requirement Planning
MRP 11 - Manufacturing Resources Planning
MRPS - Manufacturing Resource Planning System
NPV - Net Present Value
OA - Office Automation
OI/A - Operating Income to Assets
OLS - Ordinary Least Squire
PB - Payback Period
PLCs - Public Listed Companies
REV - Revenue
ROA - Return on Assets
ROE - Return on equity
ROI - Return on Investment
ROS - Return on Sales
RP - Rapid Prototyping
ROITI - Return on Information Technology Investment
REM - Random Effect Model
R&D - Research and Development
SCM - Supply Chain Management
SPC - Statistical Process Control
SPSS - Statistical Package for Social Sciences
TFP - Total Factor Productivity
TIR - Technological IT Resource
USA - United State of America
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CHAPTER 1
INTRODUCTION
1.1 Introduction
Information technology (IT) investments signify significant financial expenditures
and have a significant effect on performance (Bagheri, Abdullah, Razaei and
Maidani, 2012; Idris, Rejab and Ahmed, 2008). At the same time, IT investment
contributes significantly to the growth and productivity of the firm and the economy
as a whole (Anand, 2013). IT is very significant to several business organizations
because in today’s environment, survival and ability to attain the goals of business
strategy is difficult if the execution is not supported by an extensive use of IT
(Anand, 2013). Due to that situation, several organizations decided to invest in IT
since it may contribute a lot of benefits to the company in the long run (Anand,
2013).
Krusinskas and Vasiliauskait (2005) have acknowledged that, among the
major factors impacting economic progress in today’s global business atmosphere is
the transmission and application of latest technologies in organizations (Ordanini and
Rubera, 2010). The importance of IT investment can be seen as employing of latest
technological equipment which lead to achieved higher productivity, higher profit,
greater activity outcomes, reduced costs, improved quality, gaining competitive
advantage, market share and improved firm financial performance at the same time
(Krusinskas and Vasiliauskait, 2005; Zehir, Vilmaz and Velioglu, 2008).
Ismail and Mamat (2012) opine that IT investment helps organizations to
modernize business operations, produce a modern business model and enhance their
customer relationship management. Current IT investment advances speedily
2
transformed the techniques firms perform their businesses. Given the importance of
IT to the performances of the firm, this research aimed to identify the proportion of
IT investment from the total asset among public listed companies (PLCs) in Malaysia
and analyze its relationship with firm’s financial performance.
This chapter addresses the background of this research. In the following
section, brief information on IT investments is provided. This is followed by the
problem statement, the research questions and research objectives. The scope of the
study is stated in the next section, followed by the significance of the research, the
structure of the research and finally the chapter summary is presented as a conclusion
to the chapter.
1.2 Research Background
The Malaysian public listed companies (PLCs) play vital roles in the country’s
economy. They are undoubtedly been a major element in Malaysia’s economic
development (Musa, 2007). The PLCs were strongly hit by the Asian financial crisis
during the late 1990s that lead to over ninety PLCs including government linked
companies (GLCs) to be delisted.
PLCs comprises of main board, second board and Malaysia exchange of
securities dealing and automated quotation (MESDAQ) market. Main board and
second board was merged into main market in August 2009, MESDAQ was also
renamed as Access, Certainty and Efficiency (ACE) market in August 2009 (The
mef, 2013). In 2008, there were 977 PLCs listed in Bursa Malaysia. They accounted
for 34.9% of market capitalization. The classification of the listed companies in
2009, 2010, 2011, 2012 and 2013 are shown in table 1.1
3
Table 1.1: The Classification of Listed Companies from 2009 to 2013 (Source; TheMEF, 2013)
Year Main Market ACE Market Total
2009 844 116 960
2010 844 113 957
2011 822 119 941
2012 809 112 921
2013 800 110 910
Bursa Malaysia Berhard (BMB) categorized Malaysian listed companies into
eleven different sectors and these are: consumer product, industrial product, trading
and services, technology, construction, IPC, property, hotel, plantation, mining and
financial services. This study includes six sectors which are construction, finance,
properties, plantation, infrastructure project companies and industrial product. The
manufacturing industry from PLCs becomes the main industry in 1990s driving the
progress of the economy. This industry notices a steady expansion at an average of
8% per annum from 1990 to 1997. During this time, Malaysia reported a minimal
inflation rates, constant rise of its per capita income as well as gradual reduction in
poverty among the public. In 2009, 2010, 2011, 2012 and 2013 the manufacturing,
construction and services sector contributes the following estimate to the GDP shown
in table 1.2.
Table 1.2: Contribution of Manufacturing, Construction and Service Sector to GDP(Source: The MEF, 2013)
Sector 2009 2010 2011 2012 2013
Manufacturing -9.0% 11.9% 4.7% 4.8% 4.79%
construction 6.2% 11.4% 4.7% 18.1% 15.9%
Services 2.9% 7.4% 7.0% 6.4% 5.5%
Total 0.1 30.70 16.4 29.3 26.19
4
In terms of employment, manufacturing sector; construction sector and
service sector contributes the following estimate to the national workforce shown in
Table 1.3 as reported by in (The mef, 2013)
Table 1.3: Contribution of Manufacturing, Construction and Service Sector toEmployment (Source: The MEF, 2013)
Sectors 2008 2009 2010 2011 2012 2013
Manufacturing 28.8% 27.6% 28.3% 28.6% 29.0% 29.4%
Construction 6.6% 6.6% 6.6% 6.3% 6.2% 6.2%
Services 52.2% 53.5% 53.3% 53.5% 53.4% 53.3%
Total 87.6 87.7 88.2 88.4 88.6 88.9
The Malaysian PLCs are now confronting significant challenges. The forces
of globalization are creating intense competitive pressures in international trade.
PLCs are now under pressure to formulate strategies for competing successfully in a
more liberalized trading environment or new economy with new players and rivals
(Musa, 2007). Consequently, PLCs are required to place the goal of profitability
above other factors (Musa, 2007). The new economy is changing the business
processes. Sometimes referred to as the knowledge economy, the new economy
environment is perceived as ‘having changed the barriers to access the market and
has changed the way business is transacted using technology and knowledge’
(Mustapha, 2012). What has changed is the way business is conducted. The
widespread use of the internet is an integral part of doing business in this new
environment (Baldwin and Sabourin, 2005). Technology therefore is one important
resource of the firm. The only one definite source of lasting competitive advantage is
continues investment in IT (Baldwin and Sabourin, 2005). The long-term
sustainability of PLCs is therefore dependent on the investment they made on IT and
emphasis that they attach to knowledge workers who can identify opportunities by
using the inherent strengths of the enterprise structure to compete effectively in this
changed environment.
5
PLCs have to meet the twin goals of competing successfully in a more
liberalized trading environment with new players and rivals (Musa, 2007) and
successfully discharging their social obligations. This requires them to invest in
technology, effective leadership, develop knowledge resources, integrate social
responsibility into strategy, and adopt a strategic global outlook to identify new
products and markets, hire knowledge workers and establish knowledge based
professional management structures (Mustapha, 2012).
IT investment by Malaysian PLCs increases annually, primarily because of
the belief that IT investment provides a significant relationship with firm
performance (Ordanini and Rubera, 2010). Organizations make considerable IT
investments each year to boost their managerial decision making, assist their
business operations, and enable their strategic goals (Kobelsky, Richardson, Smith
and Zmund, 2008). As a result of massive financial investment that most PLCs make
on IT, it is vital to recognize the relationship between IT investment and firm’s
performance.
1.3 Problem Statement
For the last few decades, the Malaysian PLCs continue to increase their expenditure in IT
investment, but they are still having shortage particularly in IT investment which
impedes the country from becoming a successful productivity country (Mustapha,
2012). This problem is impacting on Malaysian PLCs since the demand for IT
personnel far exceeds the supply and the gap is widening. The high failure and poor
business performance of several PLCs can be attributed to operational inefficiencies
arising from insufficient investment in IT and appropriate tools to measures the
effect of IT investment (Mustapha, 2012). Since IT investments involve the high
provision in order to realize its full benefits, organizations need a sufficient IT
investment so that it will provide good returns to the organizations and enhance
productivity. Therefore, the organization management plays a significant part in
providing more IT investment to increase the performances of the organizations
(Baldwin and Sabourin, 2005).
6
Zhang and Li (2009) posit that the relationship between IT investment and
firm performance and efficiency has always been very hard to discover. Although
there has been extensive long-running discussion about whether or not IT investment
leads to higher productivity, most of the researchers come to believe in the positive
relationship between IT investment and firm performance. Several researchers
(Dedrick, Gurbaxani and Kraemer, 2003; Kim, Jun, and Sangho, 2009), however,
have uncertainties relating to the generalization from the studies, mainly because the
outcomes of existing studies which have discovered the positive relationship between
IT investment and firm performance are usually dependent on data obtained from
developed nations, particularly the United States (Dedrick et al., 2003). It not belief
whether the results of past firm level studies in developed nations are applicable to
other developing nations because of the differences among nations in term economic
growth as well as productivity (Quan and Wang, 2005). Furthermore, macro
characteristics such as culture, competition, labor costs and education can affect the
mechanism of IT investment value creation (Melville and Kraemer, 2004).
A few studies such as Kim et al., (2009), Jamali et al., (2013), Noor and
Apadore (2014) were carried out in several developing nations, however it remain
hard to discover firm-level empirical studies showing consistent results on the
relationship between IT investment and firm performance. Research concerning the
relationship between IT investment and firm performance in developing nations can
be one of the significant topics for future researches (Dedrick et al., 2003). The
issues of what constitute IT investment and its relationship with firm performance in
Malaysian PLCs is an area of study that received less attention. Additionally most
studies on IT investment have only been carried out by using primary data sets as
their preferred method of data collection leading to lack of studies that utilized
secondary data, because not all information on IT are provided through secondary
data. Zehir et al., (2010) used primary data and test it with the factor analysis,
regression analysis, and correlation analysis. Heshmati and Loof, (2008) used cross
sectional data and applied multivariate vector autoregressive approach.
Likewise, Javier (2007) used cross sectional survey and tests the data with
confirmatory factor analysis, exploratory factor analysis and multiple regression
analysis. Thouin, Hoffman and Ford (2008) used regression analysis of archival
survey data contain 914 integrated health care delivery system. Bagheri et al., (2012)
7
employed a survey method approach, to examine the data they collected both using
hierarchical linear regression models as well as mediated regression. Campbell
(2012) utilized primary data with panel data analysis, and time-lagged regression
analysis to examine the relationship between IT investment and firm performance
over time. In view of the above deficiency of studies utilizing secondary data, this
particular research makes use of secondary data as a preferred approach of data
collection.
Moreover, most investigations on IT investment have also been restricted to
manufacturing firms (Jamali, Voghouzei and Nor, 2013; Yao, Liu, and Chan, 2010).
Most of the studies investigate the relationship between IT investment and firm
output and productivity, but only a few have examined the relationship with
performance. Jamali et al., (2013) employed dynamic panel data and generalized
method of moments (GMM). Their work shows that IT expenditure displays a
significant impact on the growth of firms in the Malaysian manufacturing sector. The
results also show that besides this factor, some elements, such as minimum efficient
scale, productivity, technology, sunk cost, and capital- labor ratio have an effect on
firms’ growth.
It is evident from the previous studies that there exists several numbers of
studies in this field of IT investment but most of them concentrated on the impact of
IT investment on firm productivity in the manufacturing firms. The usefulness and
accuracy of any study of this nature heavily depend on the data and research
methodology utilized. This study presents a more robust methodology in testing the
relationship between IT investment and firm performance in six sectors, using recent
and comprehensive data sets of large companies.
One other aspect in which this research is more comprehensive than other
related researches is that it utilizes a panel data analysis while in most previous
studies they considered cross-sectional data analysis and time series data analysis on
IT investments. Based on these discussions, it is believed that this methodology will
provide better and more accurate results in resolving inadequacies of the studies on
the relationship between IT investment and firm’s financial performance based on
Malaysian public listed companies.
8
1.4 Research Questions
To improve understanding of the relationship that IT investment has on the firm’s
performance in Malaysian PLCs, this study addresses the following questions:
Research Question 1: What is the allocation of IT investment from the
company’s total assets among Malaysian PLCs?
Research Question 2: Is there a relationship between IT investment and firm’s
financial performance in Malaysian PLCs?
1.5 Research Objectives
Good research objectives enable the investigator to stay on track. Two research
objectives are developed based on the gaps in the prevailing body of knowledge and
these are:
Research Objective 1: To identify the allocation of IT investment from
companies total assets among Malaysian PLCs.
Research Objective 2: To examine the relationship between IT investment
and firm’s financial performance among Malaysian PLCs.
1.6 Scope of the Study
The study focus mainly on IT investment and its relationship with firm’s financial
performance among Malaysian PLCs. Specifically, allocation of IT investment are
identified in the company’s total assets and the relationship between IT investment
and firm’s financial performance is tested. The study include six sectors including
construction, finance, properties, plantation, industrial product and infrastructure
project companies (IPC) due to the availability of secondary data from the year 2009
to 2012. The study make used of six sectors, because they are the only sectors that
report information on IT assets in their total assets as a software expenditure and
hardware expenditure. Since not all companies report the IT investment in total
assets but only a few companies, so this study was confirm to use purposive
sampling by focuses only on companies that report some allocation of IT assets in
9
their total assets. The study also makes use of four years secondary data set. Four
years is chosen because it is considered as appropriate to investigate the relationship
between IT investment and firm performance through panel data analysis (Ken and
Magdi, 2004).
1.7 Significance of the Study
It is anticipated that the findings of this research work would assist the Malaysian
PLCs to embark on organizational policy formulations that address the issues of IT
investment in Malaysia, since PLCs are the backbone of the country’s economy
(Mustapha, 2012). The government relies on them for new investment and job
creation. They are therefore crucial for a long term growth of the economy.
From a managerial perspective, managers are required to have a better
understanding of the relationship between IT investment and organizational
infrastructure as well as performance. Such understanding can assist an organization
to enhanced competitive position and better utilize technological resources. On the
other hand, failure of such understanding may have disastrous consequences like
competitive disadvantage as well as inappropriate resource allocation.
Many previous studies examined the relationship between IT investment and
financial performance on a cross sectional or time series datasets, the benefit of panel
data methodology employed in this thesis will motivate researchers to examine a
more extensive period so that the results can be generalized and provide meaningful
interpretations. Additionally, IT investment is a unique factor in Asian countries like
Malaysia, but studies which have investigated IT on Malaysian firms were not many.
The outcome from this thesis may serve as a useful starting point for these
endeavors.
The outcome of this thesis will benefit researchers because it provides
empirical evidence relating to the relationship between IT and financial performance
of PLCs in Malaysia. This thesis contributes to the literature on IT investment and
firm’s financial performance and may encourage more studies on IT against firm
performance.
10
1.8 Structure of the Thesis
This research includes five chapters. Chapter one introduces an overall view of this
research. It addresses the background of the research, research questions, problem
statement and the objectives of the research. The chapter also presents the scope of
the study and its significance.
Chapter two presents a comprehensive literature review, what has previously
been attained and recognizes gaps in IT investment and firm performance. It includes
definition of investment, definition of technology, definition of IT, trend in IT
investment, benefit of IT , review of relevant theoretical model, component of IT
investment, IT investment, definition of firm performance, previous studies on firm
performance and IT investment, hypothesis development and research framework.
Chapter three focuses on the explanation of the methodology employed, it
concentrates on how this research is conducted in order to arrive at the findings and
conclusions. This chapter describes research paradigm, research philosophy and
approach, methodological framework, and also explained the research design
adopted, method of data collection, sample selection, independent and dependent
variables of this research and panel data analysis.
Chapter four concentrate on the data analysis and discussion of the results by
analyzing the secondary data obtained from Bursa Malaysia. It includes the IT
investment data and panel data analysis.
Chapter five summarize and conclude the whole research and also the chapter
present the recommendations for future research, implications and limitations of the
research. This chapter recaps the research hypotheses and objectives of the study
summarize the main findings and discuss the contributions, potential future research
as well as implications and limitations of this study are discussed.
11
1.9 Definitions of Key Terms
Defining the terms like technology, investment, IT investment and firm’s financial
performance are important, the approach taken in this thesis is to provide operational
definition of the key terms. The main terms used in this study are defined below.
Technology refers to the machines and tools both the hardware and software
that helps firms to improve performance.
An investment in this research is seen as expenditure made by firms on IT
with the aim of earning higher firm financial performance.
Financial performance is a measures use to evaluates the result of firm
operations in monetary means.
Firm performance is to measure the performance of the firm throughevaluating return on assets (ROA), return on investment (ROI) and revenue.
1.10 Chapter Summary
This chapter provides an overview of this research work, a brief description of this
study and the role of IT investment in increasing firm’s performance. Issues
highlighted include the inadequate investment in IT by Malaysian PLCs, lack of
consistent results regarding IT investment and firm’s performance and lack of
research utilizing secondary data. This study help to bridge the gap of lack of studies
on IT investment and firm financial performance in Malaysian PLCs and give an
insight on the relationship between IT investment and firm’s financial performance.
The study focuses mainly on six sectors from Malaysian PLCs due to lack of
available information from the remaining sectors. The research questions, research
objectives and organization of this thesis are other issues which are explained in this
chapter.
The next chapter provides the literature review in order to review the current
literature to identify gap in the area of IT investment and firm’s performance, then to
develop hypothesis.
12
CHAPTER 2
LITERATURE REVIEW
2.1 Introduction
Chapter two aims to review theories and literatures on the relationship between IT
investment and firm’s performance. This chapter builds a theoretical foundation for
the research through a thorough review of the existing literatures on the topic of this
research. The purposes of this chapter are (i) to identify and review the theories that
explain IT investment and firm’s performance for developing a theoretical
framework for the research, (ii) to evaluate the extent in which scholars have
addressed the issue of IT investment and (iii) to identify the gap in the literature thus
leads towards the current research questions and research hypotheses.
Theory forms the basis for the identification and designing research
problems. It assists in the identification of significant factors, idea or variables and
relationship, interpretation and understanding observations or data and more
importantly in the advancement of explanations. This study is based on productivity
paradox theory. An extensive stream of research has examined the relationship
between IT investment and firm productivity. One early and intriguing finding was
that, despite heavy investment in IT, significant productivity gains were not evident
in the aggregate output statistic. This encounter intuitive finding has been dubbed the
“the productivity paradox” (Solow, 1987; Dedrick, Gurbaxani and Kraemer, 2003)
which is the theoretical foundations of this research. Research hypotheses for this
research are developed concurrently with literature review in this chapter.
13
2.2 Definition of Technology
Technology comprises of the way through which we attain objectives and could be
seen as the means of doing things (Khalil, 2000). Technology is the modification,
making, usage, and knowledge of machines, tools, techniques, systems, crafts,
strategies in organization, to be able to resolve a problem, enhance a pre-existing
remedy to a problem, accomplish a goal or execute a particular function. It may also
relate to the collection of such tools, changes, machinery, arrangements along with
procedures.
Khalil (2000) define technology as the knowledge, processes, products,
methods, tools and also systems applied in the production of goods or in rendering
services. Likewise, Takim, Omar and Nawawi (2008) defines technology as the
collection of visible processes which convert inputs to outputs by using
organizational arrangements and procedural technique to carry out the
transformation. In addition, Wright (2008) defines technology as the knowledge and
processes which individuals utilize in order to satisfy individual needs and wants.
Cui, Grossmann & He (2009) define technologies as the knowledge as well as
machinery which are required to perform a company. It might consist of both the
hardware like machines and software such as blueprints along with working
instructions. Likewise, Burgelman, Christensen and Wheelwright (2009) define
technology as the practical and theoretical know-how and abilities that may be
employed in the development of products or services, their effective and also
providing systems, and that can be integrated in processes, equipment, materials and
systems utilized in the production of goods or in rendering services.
Siti Aishah, Ahmad, Shariman, Zawahir and Hisham (2011) state that
technology involved knowledge, equipment’s, as well as documents that assist
organizations to improve their performance. In addition, Margaret and Andrew
(2012) brings more elaborated meaning regarding technology as being a technique or
device, technique of doing or physical equipment, process or product through which
individual capability is expanded. Within the operations framework, technology is
practical know-how or knowledge employed to increase an organization’s capability
to provide goods and services. Because practical know-how differs widely in level of
14
physical embodiment, a specific technology can be an electrical or mechanical
component, a machine or assembly, software code, a chemical process, a manual,
documentation, blueprints, operating procedures, a technique, a patent, or even a
person. Expansion includes improving, refining, augmenting or changing a few
components of the organization’s operating procedures and value-adding capabilities
to achieve one or more operational objectives including: performance improvement,
flexibility and variety improvement, capacity improvement, personnel skills
development, conformance quality improvement, cost reduction, task and process
time reduction.
Thus, technology can be generally understood as the entities, both material
and immaterial, produced through the application of mental and physical effort to
achieve some benefit. Therefore in this research, technology refers to the machines
and tools both the hardware and software that helps firms to improve performance.
2.3 Definition of Investment
Investment can be seen as an asset or product that is purchased with the
aspiration that it will produce income or appreciate in the long run (Huije, 2010).
Investment is therefore expenditures made for income-producing assets. In other
words investment is expenditure on capital items by organizations and government
that will permit greater generation of consumer products and services in long-term
periods. Usually investment entails using financial resources to obtain a
building/machines or other assets that will subsequently generate returns to the
enterprise during a period of time.
Within the economic perception, an investment could be the acquisitions of
items that are certainly used in the future to create wealth. In finance, an investment
is a financial asset purchased with the notion that the resource will deliver earnings
in the future or appreciate and be sold at a higher price (Huije, 2010). Investment is
the assets acquired with the intention of generating earnings for its owner (Huije,
2010). Thus, an investment can be most broadly defined as expenditure formed in
order to create something associated with greater value to the investor compared to
the original cost (Piana, 2004). The investment cost could be calculated in time,
15
money, or any other measurements that tend to be relevant to the situation. A good
investment could result in an immediate return. An investment in this research is
seen as expenditure made by firms on IT with the aim of earning higher financial
performance.
2.4 Reviews of Relevant Theoretical Models
Researchers (Mithas, Tafti, Bardhan and Goh, 2008; Liang, You and Liu, 2010;
Jamali et al., 2013) have utilized many theoretical paradigms in evaluating the
relationship between IT investment and firms performance, several relevant
theoretical models of IT are discussed: the productivity paradox theory, general
purpose technology theory, neoclassic, and resource based view theory.
2.4.1 Theoretical Model of IT Resources
Aral and Weill (2007, p. 765) have developed a theoretical model of IT resources as
“a combination of investment allocations and mutually reinforcing system of
competencies and practices that together represent organizational IT capabilities”.
The framework for measuring IT capabilities and IT assets from the IT resources
model utilized by Aral and Weill (2007) is shown in Figure 2.1 and elaborated in the
following section.
16
Figure 2.1: Theoretical Model of IT Resources (Adapted from: Aral and Weill,
2007)
According to Aral and Weill (2007), firms invest in IT resources to attained
firms specific strategic purposes and business goals as shown Figure 2.1. These goals
can include optimizing processes for lowering costs, investment in technology to
bring new product to market and providing analytical tools to support management
decisions and many others. As the strategic goals differ, so must the investment
allocation be modified to match them. For example, a firm focuses on long-term
market growth and profitability must focus on building a foundation for stable
infrastructure (Duncan, 1995; Weill and Aral, 2005). The firm can use this
foundation to build products and services, which will yield result a few years later.
On the other hand, a firm focused on innovation may want to give autonomy to local
managers and invest in flexible business processes to allow for distributed
innovation. As putting these specific systems in place requires unique organizational
capabilities and also take time to build and optimize, they become difficult to imitate
by competitors (Duncan, 1995). This combination of investment allocations and
unique organizational capabilities explains the variation in firm’s performance and
reflect the business strategies of the firm. The IT portfolio framework and IT assets
classification depicted in the theoretical IT resources model earlier in Figure 2.1 can
be describe in details below in subsections.
The IT portfolio framework (Weill and Broadbent, 1998), identifies the
following classification of IT investment based upon how senior management
IT Resources
IT assets: IT investment allocated forparticular strategic purposes
IT asset Strategic PurposesInfrastructure Foundation of shared IT services, Provide
flexible base for future businessTransactional Automate process, cut costs increase
volume per unit costInformational Provide information for managing,
accounting, reporting, planning, analysisand data mining
Strategic Support entry into a new market, providea new service, enable a new products
IT capabilities: interlocking systemsof practices and competencies that
complement
Competencies (Skills) Practices (Routings)
IT skills Culture of IT useIT management quality Digital transactions
Internet architecture
17
classified the IT spending: transactional, informational, strategic and infrastructure.
Figure 2.2 below shows the four asset classes of IT portfolio and expected
performance benefit that can be derived from investment in each of them. Each type
of investment represents a different IT assets class with a different risk-return profile.
Further studies (Weill and Broadbent, 1998: Weill and Aral, 2006) have shown that
just as investors address their objectives for risk and return using portfolio of
financial investments, companies can manage their IT portfolios such that it allows
their managers to match IT investment with strategic objectives.
Figure 2.2: IT as an Investment Portfolio (Adapted: Aral and Weill, 2007)
Infrastructure investments are the shared IT services used by multiple
applications. Depending on the service, infrastructure investment are typically aimed
at proving flexible base for future business initiatives or reducing long-term IT cost
via consolidation. The firm’s IT infrastructure forms the foundation for its shared IT
service upon which the enterprise wide application can be built. This includes the
servers, networks, databases, help desk and common application development
platform. The nature of enterprise wide infrastructure implementation can result in
higher upfront cost, but it also enables long-run significant performance
improvement. Infrastructure investments are therefore expected to be positively
associated with higher upfront costs, lower short-term profitability and higher long-
term profitability and improve operational performance over time (Weill and
Broadbent, 1998; Duncan, 1995).
*Betterinformation*Improved cycletime*Improved quality
*Businessintegration*Reduced IT costs*Standardization
*Cut Costs*Increasethroughput
*Product innovative*Competitiveadvantage*Increased sales
Informational
Strategic
Transactional
Infrastructure
18
Transactional investments are used primarily to cut cost or increase
throughput for the same cost. This can be achieved by automating processes so that
the volume of work can be improved without improving the unit cost. Example of
transactional investments can include investment in systems to automate order
processing, customer self-service and other repetitive transaction processing
functions. Transactional investments have the potential to deliver immediate cost
reductions (Sambamurthy, Bharadwaj and Grover. 2003).
Informational investments provide information for purposes such as
accounting, reporting, compliance, communication or analysis. The information can
be used internally for accounting, reporting and managing the firm or for external
reporting and communication with customers, suppliers and regulators. Examples
include decision support, sales analysis. The investment in informational systems can
improve the agility and adaptability of the firms, allowing them to make more
effective business decisions. Improved data collection and decision making ability
can allow firms to reduce cost, quickly respond to changing marketing dynamics and
new business opportunities resulting in improved revenue growth and profitability
(Sambamurthy et al., 2003).
Strategic investments are used to gain competitive advantage by supporting
the firm’s entry into new market or by helping to develop new products, services or
business processes. However as the competitors imitate these changes and gain the
capabilities, they can become commoditized. Strategic investments provide direct
support for product innovation. Successful IT portfolio techniques change the
conversation from technical to strategic considerations by applying commercial lens
to IT investment. The strategic purpose associated with each IT asset class and
corresponding expected performance benefit are shown below in Table 2.1
(Sambamurthy et al., 2003).
19
Table 2.1: IT Assets and Performance Benefits (Adapted: Aral and Weill, 2007)
IT Assets Strategic Purpose Expected Performance Benefits
Infrastructure Foundation for sharedservices and futurebusiness initiative
Higher market value
Short term: Increased cost,reduced profitability
Long term: Lower costs,increased profitability
Transactional Automate process, Cutcosts, Increasethroughput
Lower cost
Informational Provide information foroperations planning andanalysis
Lower cost
Improved profitability
Strategic Support new marketentry, enable newservices or products
Increased innovation
Successful IT portfolio techniques change the conversation from technical tostrategic considerations by applying a commercial lens to IT investment. It should benoted that the IT portfolios can vary by industry and firm’s strategic objectives butserve as a good benchmarking tool within the industry.
2.4.2 General Purpose Technology Theory
General purpose technologies (GPTs) are significant new ideas or techniques which
have the potential to have an important effect on the companies. A GPT can be seen
as "a technology that initially has much scope for improvement and eventually comes
to be widely used, to have many uses, and to have many technological
complementarities" (Guerrieri and Padoan, 2007). Their essential characteristics are:
technological dynamism, inherent potential for technological enhancements,
pervasiveness, employed as inputs by several downstream industries and innovation
complementarities along with other forms of improvement indicating that the
efficiency of research and development in downstream industries improves as a
20
result of innovation in the GPT. Therefore, as general purpose technologies increase,
they spread within the economy, causing general productivity increasement
(Guerrieri and Padoan, 2007).
Guerrieri and Padoan (2007) found that the impact of IT in the 21st century is
quite similar to the impact that automotive technology has previously. The main
objective of IT is to decrease coordination costs. These decreasing in costs result in
three effects. Firstly is the "substitution effect", whereby IT will result in manual
labor being substituted by information systems. The second is "emergence of new
structures", in other words the use of more coordination intensive structures. The
third effect is the "increased use", which means IT will result in increased use of
coordination.
IT is essentially enabling technology which allows innovations within the
application industry. For instance, computers have been widely used to automate
back office operations, and network applications assist to coordinate processes
between organizations. There are two main arguments that support the idea of IT as a
general purpose technology. First, an important component of the value of IT is its
capacity to facilitate complementary organizational investments such as work
practices and business process. Second, these investments, subsequently, result in
productivity maximization through allowing companies to improve output quality in
the form of new goods or in enhancements in intangible facets of existing goods like
timeliness, convenience, variety and quality and most importantly through
minimizing costs.
2.4.3 The Neoclassical Theory
In evaluating the contribution of IT as a conventional input factor, many research
employ neoclassical assumption (Stiroh, 1988 cited by Jamali et al., 2013). The
standard neoclassical model is well known and has been used extensively to evaluate
and to examine the link between IT and productivity. In a Neoclassical model, which
assumes a Cobb-Douglas production function, IT is modeled as a special form of
capital and distinguished from other forms of capital to study the impact of IT capital
on productivity. An important point about this framework is that there is no special
21
role for IT capital, as there is no direct impact on total factor productivity (TFP)
growth from capital deepening. TFP growth, by definition, is the output growth that
is not explained by input growth. Any output contribution associated with IT
investment is attributed to IT capita and not TFP. IT investment decreases the fixed
costs of operating a firm. An example is the traditional idea of automating the firm’s
payroll or accounting and E-office functions. Therefore, a decrease in fixed cost
generally causes more profit (Stiroh, 1988 cited by Jamali et al., 2013).
IT investment that reduces the costs of designing, setting up and developing a
product with a specified quality level is represented by a decline in fixed cost (Jamali
et al., 2013). Examples of this type of technology are computer-aided design (CAD)
tools or computer-aided systems engineering (CASE) tools, which ideally enable a
firm to design and develop a product of a given quality, at lower cost or design and
develop a better-quality product at the same cost. IT investment can decrease labor
cost by improving the managerial abilities of firms and the coordination of the labor
force (Jamali et al., 2013). The efficiency of the labor force in the firm will increase,
resulting in higher profit.
2.4.4 The Resource - Based Theory
To analyze the relationship between IT investment and firm financial performance,
several researchers have argued in favor of complementary nature of IT and
organizational processes using the resources-based theory of the firm. The resources-
based theory argues that the firms attain competitive advantage using unique
resources which are valuable, rare, in-imitable and not easily substitutable. This
theory states that long lasting competitive advantage exists through a unique
combinations of resources that are non-imitable, economically valuable and scarce
(Liang et al., 2010). As these resources are imperfectly mobile around business
boundaries and because companies practice various methods in implementing these
resources, they tend to be heterogeneously spread across companies (Huang, Ou,
Chen and Lin, 2006)
Firm resources are protected by competitive imitation through embeddedness,
path dependencies, time diseconomies of imitation and casual ambiguity about the
22
source of competing advantage. These heterogeneously allocated and hard to
duplicate resources partly generate variations in firm performance. The dynamic
capability framework (Liang et al., 2010) extends this to include the technological
and environmental changes. This framework emphasizes the importance of strategic
assets such as knowledge and technology, which are important for retaining
competitive edge in a rapidly changing environment.
John (2005) develops IT business value models from the resource-based
perspective. He defines IT capability as a firm's ability to deploy IT enabled
capabilities in combination with other complementary resources to achieve
competitive advantage. Key IT based resources were classified into tangible IT
resources comprising the physical components of IT, human IT resources comprising
the technical and managerial skills and intangible IT-enabled resources, including
knowledge assets, customer orientation and synergy. Others have been able to
demonstrate a positive relationship between IT investment, productivity and firm
performance, there is a substantial variation across firms and some of the
productivity benefits may be due to firm-specific factors (Huang et al., 2006).
Therefore investment allocations plus company variations assist to shape the
heterogeneous IT resources firms produce and describe variations in firm
performance.
Aral and Weill (2007) examined why different types of IT investment impact
different aspect of firm performance. One explanation for firms with similar IT
capital investment rates performing differently is that they are investing in different
types of technology as a result of pursuing different goals. They also argue that
investment allocations and organizational differences play an important role in
shaping the firms IT resources and explain performance variations.
2.4.5 The Productivity Paradox Theory
During the 1980s, the earliest larger researches on IT in relationship to productivity
were carried out. Several of such researches did not discover any relationship among
IT investments and productivity, irrespective of whether being the entire economy,
firms and industries (Mithas et al., 2008). Several studies observed the link
23
concerning large IT investments that had been carried out with a productivity decline
that started in 1973 in the United States of America. This relationship was referred to
as the productivity paradox. Solow (1987) stated: “we see the computer age
everywhere except in the productivity statistics”.
These publications result in a considerably rise in investigation on IT against
productivity. Mithas et al., (2008) provide several reasons why the productivity
paradox prevails. The major reason may be as a result of errors of measurement for
IT capital can be because of quick price and quality changes, and inability of
economic statistics to evaluate qualitative enhancements in the outcome of service
industries. The second reason is likely to be “time lags”, where challenges occur
when trying to measure the return on an IT investment prior to it completely applied
and employed to the degree as to achieve the set objectives that taken from the
reason that the investment decision was based on in the first place (Mithas et al.,
2008).
Advantages that derive from an IT investment can be based on the nature of
the investment and may take several years to show outcome. Before the new tool to
be completely incorporated and employed to its total abilities, the users require to be
given the proper training in order to acknowledge the new technology. As the users
gain the sufficient experience, then investors would be able to make conclusions
whether the investment had the wanted effect (Mithas et al., 2008).
The third reason is “Redistribution”, where IT may not enhance productivity
within the entire economy but assist individual companies compared to competitors.
This could be described through companies introducing “Strategic Information
Systems”. These systems may move benefits from competitors rather than to reduce
costs. This impact may show up as improve in market share for instance. An
additional illustration of this could be that market research intensification and
marketing advancement that sprung by IT investments are advantageous to the firm,
and again could not show up as improve in productivity.
The fourth reason that should be taken into account would be
“Mismanagement”. Managers and decision-makers that are not acting in the best
interest of the company could cause a substantial damage. Investment may, in a
worst case scenario, end up creating more damage than good. Investments in IT that
24
are made in such manner that they end up showing a negative return on investment
(ROI) should not have been invested in, in the first place (Mithas et al., 2008).
Another risk lies in that the benefits that sprung from IT investments are not fully
captured. This may result in benefits that are converted into slack. “In fact, there may
be significant social benefits from IT investments that increase consumer welfare but
are not captured by the firms making those investments. Therefore, it is of great
concern to business and technology executives whether their IT investments are
paying off at the level of the firm” (Dedrick et al., 2003, p.7). In conclusion, when
considering the productivity paradox, it should be taken into account that the
researches conducted in the 1980s were mainly focusing on an aggregated level in
the United States. It could therefore be assumed that companies in a market economy
would act and invest to their own benefit, rather than to benefit for an aggregated
economy as a whole (Dedrick et al., 2003).
The theoretical framework for this research is based on the productivity
paradox theory. A basic premise of the understanding of the productivity paradox is
that the effect of IT did not show up in the productivity statistic. Therefore this
research tested the productivity paradox at the organizational level to see whether
investment in hardware and software had a relationship with firm’s financial
performance in terms of revenue, return on assets (ROA) and ROI. Several studies in
the IT literature such as John (2005) as well as Huang et al., (2006) and Liang et al.,
(2010) have framed their models using the productivity paradox view, which gives
credibility for its continued use as a framework in this research.
The relationship between IT investment and firm performance has been
investigated extensively since the late 1980s. Highly cited publications in this area
include those by Solow (1987), Dedrick et al., (2003), Brynjolfsson and Hitt (2000)
and Barney (1991). The findings from these streams of research generally contradict
the productivity paradox and confirm IT’s contribution to firm performance and
competitive advantage. Additionally, prior research on IT has also been carried out in
developed countries particularly the United States and restricted to manufacturing
firms. In addition to investigating the contributions of IT, these researchers have also
acknowledged certain gaps for which further research is needed to explain the
relationship between IT and firm performance.
99
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