Product market competition, state ownership and internal control quality

Abstract

Based on a sample of Chinese A-share listed firms on the Shenzhen Stock Exchange and the Shanghai Stock Exchange between 2007 and 2012, we examine the effect of product market competition on the internal control quality of Chinese listed firms and the difference in this effect between state owned firms and non-state owned firms. Using the internal control index constructed by Chen et al. (2013) as the proxy for internal control quality, we find that product market competition has a significant effect on the internal control quality of Chinese listed firms: the more intense the product market competition is, the higher the internal control quality will be. However, the effect is only significant for non-state owned firms, not for state owned firms. In addition, we find that high quality internal control can improve product market competition advantage, providing support for our main findings. Overall, our study extends the literature on internal control and product market competition, provides evidence on whether internal control can help firms realise their development strategies, and offers advice to related government departments and firms on improving internal control quality.