Does Pyramid Create Access to Debt Financing for Entrepreneurs? Evidence from China

Abstract

Pyramid has been regarded as a means to create internal financial market and tunnel asset by the ultimate controller, however, in a financial system dominated by banking sector and most of bank loans go to state controlled firms and public firms, entrepreneurs may also try to get access to bank loans through controlling public firms by pyramid. Entrepreneurs who want to over leverage the public firm and thus transfer more funding which would have been otherwise not available will find that it is easy to do so with more control over this public firm, but under the severe financial constraint, entrepreneurs might well not want to increase their ownership, the result being increase in leverage as increase in separation. The empirical study based on all public firms in China from 2004 to 2005 confirms that public firms with ultimate largest shareholder as individual(s) have more leverage or separation compared to their state controlled peers and within those firms, those in pyramid structure present a significant higher leverage. However, it is still unknown whether this development has increased financial risks for public firms and banking system as a whole.