Split Share Structure Reform In China Research Articles

Auditors’ response to earnings management after split-share structure reform in China

PurposeThis study aims to investigate whether and how auditors responded to the documented increases in earnings management after split-share structure reform (SSSR) in China, as manifested in auditors’ propensity to issue modified audit opinions (MAOs) after the SSSR. This study further investigates how client importance and auditor size influence auditors’ response to earnings management after the SSSR.Design/methodology/approachThis study adopts logit regression models to investigate auditors’ propensity to issue MAOs to their clients that appear to manage earnings after the SSSR. Initially, including all Chinese publicly listed firms from the CSMAR database, the sample for final analyses consists of 21,904 firm-year observations for 1,290 unique listed firms during the period 2001–2020. The sample period surrounds the implementation of the SSSR, which started in 2005, allowing the examination of auditors’ propensity to issue MAOs after vis-à-vis before the SSSR.FindingsThe authors find that non-Big10 auditors in China were less likely to issue MAOs to their economically important clients who appear to manage earnings after SSSR. However, in the years of non-tradeable shares being released to the markets, both Big10 and non-Big10 auditors were less likely to issue MAOs to their economically important clients who appear to manage earnings. The findings suggest that auditors may have compromised auditor independence in response to earnings management after the SSSR, likely due to the pressure from their economically important clients.Originality/valueThis paper contributes to the literature, specifically the practice and theory in auditing, by shedding light on ever-changing auditors’ reporting behaviour, especially with regard to auditor independence. It also adds to the growing body of literature on the impact of institutional changes on auditing practices worldwide. The findings of this study further suggest that the recently documented declining demand for high-quality audits after the SSSR may be motivated by the clients’ intention to manage earnings after the SSSR.

Stock liquidity and investment efficiency: Evidence from the split-share structure reform in China

Using China’s split-share structure reform, we examined the effect of stock liquidity on investment efficiency. We found that enhanced stock liquidity results in more efficient investments and the effect is much more pronounced for under-investing firms than for over-investing firms. Additionally, we found that an increase in institutional ownership and price efficiency generated by a change in stock liquidity is positively associated with a reduction in under-investment. Thus, these findings suggest that under-investing firms with liquid stocks have more informed investors and face greater pressure to select an optimal investment level in the post-reform period.

Ownership Characteristics and Financial Performance: Evidence from Chinese Split-Share Structure Reform

This paper investigates the relationship between two characteristics of corporate governance (concentrated and state ownership) and firm financial performance by bringing new and extensive evidence from an emerging market. Further, this study examines the impact of the recent stock split reform in China on the corporate ownership characteristics–firm performance relationship. The final sample of this study is comprised of 234 firms with 2340 annual observation values. The study hypotheses are examined using regression analysis of panel data. We found that concentrated ownership is positively and significantly related to firm performance. However, state ownership has a significant negative impact on firm performance. Further, we observed that the stock split reform has a substantial and positive effect on the ownership–corporate financial performance relationship. In particular, the positive relationship between ownership concentration and firm performance has increased following the split-share structure reform. The negative relationship between state ownership and corporate financial performance has been mitigated following the split-share structure reform. We contribute to the existing literature on corporate governance by investigating the ownership–corporate financial performance relationship in a unique research setting based on the impact of an exogenous regulatory change, namely, the split-share structure reform in China. The study presents implications for regulators, investors, and researchers interested in examining developing markets such as China. Our results imply that the institutional reform of the Chinese stock market has benefitted investors through enhancing corporate financial performance. The findings suggest that the reform of the Chinese stock market has significantly shaped the impact of ownership structure on corporate financial performance in a valuable way for effective capital allocation. Thus, collectively, the split-share structure reform enhances the quality of corporate governance, which is pivotal to the growth of the country’s economy. This, in turn, has policy implications for other emerging economies.

Mutual fund herding and return comovement in Chinese equities

This paper explores the role mutual fund herding plays on the return comovement in Chinese equities. The results show that mutual fund herding significantly reduces the return comovement among Chinese stocks, providing evidence for the existence of a rational herding behavior by mutual funds. We find that the negative effect of mutual fund herding on return comovement is larger for stocks with low volatility and high mutual fund ownership. We also observe that mutual fund herding has a stronger impact on return comovement after the full-implementation of the Split-Share Structure Reform in China in 2012 which allowed all shares to be traded freely among all market participants.

Does privatization reform alleviate ownership discrimination? Evidence from the Split-share structure reform in China

This paper investigates the institutional origins of ownership discrimination in bank lending through a staggered quasi-natural experiment: China's Split-share Structure Reform. State-Owned Enterprises (SOEs) have an advantage over non-SOEs in securing external financing to protect investment opportunities from cash flow fluctuations. This financing privilege declined significantly after the reform, which mandatorily converted SOEs' non-tradable state-owned shares into tradable shares, sharply increasing the likelihood of further privatization. Consistent evidence also exists in terms of bank lending behaviors. Further, we show both direct and indirect evidence that the effects were more pronounced among SOEs under higher threats of privatization (e.g., firms with larger increases in tradable shares, smaller workforce, and in industries peripheral to national strategy). The evidence suggests that banks proactively prefer SOEs for the perceived safety of loans under implicit government guarantee; when this privilege disappeared after the reform, banks reacted by allocating credits more fairly. This paper provides new evidence on the bright side of share structure reforms in mitigating credit misallocation and enlightens policy makers to practical resolutions to the financing inefficiency in emerging capital markets.

Stock Liquidity and Investment Efficiency: Evidence from the Split-Share Structure Reform in China

Using the split-share structure reform in China as a quasi-natural experiment, we examine the effect of stock liquidity on investment efficiency. Consistent with feedback and incentive theories, investment efficiency increases after the reform but only for under-investing firms. Higher stock liquidity increases institutional ownership, board independence, and price efficiency, especially for under-investing firms; thereby increasing investment efficiency of firms including those owned by the state. Our analysis is robust to a battery of considerations, including multiple specifications and several natural experiments. Our findings highlight externalities linked to the Chinese reform and further substantiate the real effects of financial markets.

Non-controlling large shareholders in emerging markets: Evidence from China

Non-controlling large shareholders play an important role in corporate governance in emerging markets where controlling shareholder expropriation is a major concern. We argue that non-controlling large shareholders are faced with two non-conflicting incentives: to take advantage of their information advantage and obtain positive abnormal returns when they trade company shares, and to serve as effective monitors and minimize controlling shareholders' appropriation of company wealth. Using a sample of large shareholders' selling events upon the expiration of the lockup period following the split-share structure reform in China, we find that non-controlling large shareholders successfully time the market, as shown by their positive abnormal returns when selling their shares. Their returns are higher if they have a greater information advantage. Furthermore, the positive returns of the controlling large shareholder are negatively related to non-controlling large shareholders' ownership, suggesting that non-controlling large shareholders play a monitoring role and prevent controlling shareholders from looting the company. We also show that large shareholders affiliated with the controlling shareholders are not subject to as high a level of monitoring as those controlling shareholders are. Furthermore, both firm opaqueness and the severity of agency cost affect the quality of non-controlling large shareholders' monitoring.

Ownership and Financing Discrimination: Evidence from the Split-Share Structure Reform in China

We study the existence of financing discrimination between state-owned and non-state owned enterprises from the perspective of investment-cash flow sensitivity, and the effects of privatization reform on muffling the institutionally-rooted discrimination. Hit by negative cash flow shocks, firms either reduce investment or raise capital. A firm has no choice but to reduce investment if it cannot raise capital, giving rise to investment-cash flow sensitivity. By employing the dynamic multi-equation model, we find that State-owned Enterprises (SOEs) exhibit significantly lower investment-cash flow sensitivity than that of non-State-owned Enterprises (non-SOEs), suggesting their privileged accessibility to the financial market when cash flow plummets and thereby their stronger capability to protect investment opportunities against cash flow fluctuations. The evidence of firms’ financing behaviors illustrated in the multi-equation model further confirms the existence of ownership discrimination. Moreover, we find that the difference in investment-cash flow sensitivities between SOEs and non-SOEs declined sharply after the Split-share Structure Reform in China, shedding light on the positive impacts of the reform in alleviating ownership discrimination and improving credit allocation efficiency of the capital market.

Does Privatization Reform Alleviate Ownership Discrimination? Evidence from the Split-Share Structure Reform in China

Does Privatization Reform Alleviate Ownership Discrimination? Evidence from the Split-Share Structure Reform in China

Do Demand Curves for Stocks Slope down in the Long Run?

The Split-Share Structure Reform in China mandated the conversion of nontradable local A-shares into tradable status and increased A-share float. This paper examines the long-term pricing effects of the increased float. Given that foreign B-shares were not directly affected by this reform, we use B-share price to control for possible changes in firm fundamentals. We find that, across firms, larger increases in A-share float leads to larger decreases in A-share price relative to B-share price, even up to around ten years after the reform, suggesting that demand curves slope down in the long run. We also find that larger increase in float leads to larger decrease in turnover and volatility, and demand curves are less elastic when divergence of opinion is larger, consistent with the theory modelling investors with divergence of opinion.

Foreign institutional investors and corporate governance in emerging markets: Evidence of a split-share structure reform in China

Using data on China's split-share structure reform that floats non-tradable shares, we find that Qualified Foreign Institutional Investors (QFIIs) have greater influence over the controlling state shareholders than local mutual funds. QFIIs are less prone to political pressure and are more likely to participate in arm's-length negotiation and monitoring in state-controlled companies. The presence of QFII ownership shortens the duration of the reform and increases the compensation to minority tradable shareholders. Unlike local mutual funds, the positive relationship between state ownership and the compensation to tradable shareholders increases with the presence of QFII ownership. Furthermore, QFIIs increase the likelihood of revision in reform proposals among state-controlled companies. Domestic mutual funds seem to make earnest negotiations in non-state-controlled companies in the absence of political pressure. Evidence suggests that involving foreign institutional investors in corporate governance practices can significantly reduce expropriation by controlling shareholders in emerging markets.

The Real and Accrual-based Earnings Management Behaviors: Evidence from the Split Share Structure Reform in China

This paper investigates the earnings management activities in Chinese listed firms and the impact of the split share structure reform (SSSREF). We demonstrate that Chinese listed firms exhibited a long-term positive relationship between real and accrual-based earnings management activities over the 2002–2011 period. This reflects the environment of weak investor protection and lack of effective corporate governance in China. Our results also indicate that the SSSREF in China has not fundamentally improved firms' quality of financial information. This may be because ownership concentration remains high. However, it is of interest that the reform has created an incentive alignment effect exogenously. We find that firms' use of discretionary accruals was constrained, and they have consequently shifted to less detectable and under-scrutinized real earnings activities after the reform. This shift is similar to that seen with the direct regulatory changes in accounting reporting rules on firms' earnings behaviors in developed countries where the investor protection environment is strong. We suggest that firms' shifting between the accrual and real-based earnings methods is an overlooked area for investors to consider in the emerging market context, and may require the attention of regulators.

The overseas listing puzzle: Post-IPO performance of Chinese stocks and ADRs in the U.S. market

The “China concepts stock” in the U.S. has attracted a great deal of attention among international investors due to the fast growth in Chinese economy. This paper examines the aftermarket performance and the motivations to list in the U.S. for Chinese firms over 1993–2010 by considering the great impact of split-share structure reform in China. We find that the Chinese firms in the U.S. generally underperform the benchmark and industry peers in the post-IPO period of 3 years. The Chinese cross-listing ADRs show superior performance relative to the single-listings in the long run. It seems that more stringent listing requirements and accounting standards help to improve the corporate governance and operating performance of the Chinese firms. The evidence also supports that the Chinese issuers are motivated to cross-list in the U.S. due to over-investment incentives, leverage effects or free-cash-flow signaling, which is consistent with agency theory and signaling hypothesis.

The Value of Shareholder Activism: New Evidence from the Split-Share Structure Reform in China

We examine shareholder activism in the recent split-share structure reform in China. This unique event allows us to avoid the deficiencies in determining activism proxies and in measuring their effectiveness that plague the previous literature. We find that the effectiveness of shareholder activism is influenced by segmented institutional ownerships. Particularly, shareholder activism could have both positive and negative impacts on managerial behaviors in the presence of institutional investors' interest conflicts. We show that, even in its primitive stage, Chinese shareholder activism has demonstrated positive value in corporate governance.