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Law, Corporate Governance, and Corporate Scandal in China

Law, Corporate Governance, and Corporate Scandal in China. Yi Zhang Peking University International Conference on Corporate Governance Shanghai March 2005. I. Introduction. It has been over ten years since stock markets established in China. China stocks market has been playing a role .

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Law, Corporate Governance, and Corporate Scandal in China

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  1. Law, Corporate Governance, and Corporate Scandal in China Yi Zhang Peking University International Conference on Corporate Governance Shanghai March 2005

  2. I. Introduction • It has been over ten years since stock markets established in China. China stocks market has been playing a role . • there exist so many listed firms committed fraud and scandal • Since 1992, about 200 listed firms among 1200 have been subject to security enforcement action by China Securities Regulation Commission (CSRC), Shenzhen Stock Exchange (SZSE) and Shanghai Stock Exchange (SSE). • The ratio of firms with scandal is far above the level of other countries

  3. Motivation • What contributes to firm’s scandal? • Does corporate governance matter in China? Is there a sound corporate governance mechanism could prevent scandal? • Does legal and economic development matter? - Is there a difference between firms in regions with various legal effectiveness? - economic development?

  4. II. Issues and Hypothesis: -Corporate governance -legal -economic -finance

  5. 1.1. ownership One of the most essential feature of the ownership of Chinese listed firms is the dominance of the largest shareholder There has no effective mechanism to monitor and restrict the large shareholders The large shareholder can expropriate the minority shareholders for private benefit 1. Corporate Governance

  6. 1.1. ownership Jensen(1976) Stulz (1988) H1A: As the ownership of the largest shareholder increases from zero, a firm is more likely to be associated with scandal 1. Corporate Governance

  7. Entrenchment of large shareholders Expropriation by large shareholder La Porta, Lopez-De-Silanes, Shleifer (1999) La Porta, Lopez-De-Silanes, Shleifer (2002) Claessens, Djankov, Fan, and Lang (2002) Fan and Wong (2002) H1B: As the ownership of the largest shareholder increases over certain level, a firm is more likely to be associated with scandal

  8. There is fundamental difference between state and non-state shareholders There is huge difference among state shareholders in internal monitoring, etc. -central government (bu/wei,中央部委）和 -non-central government (非部委） Li and Zhang（2005） Li and Zhang（2004） Lin and Zhang（2004） 1.2 Firm Controller

  9. -central government (bu/wei,中央部委）和 -non-central government (非部委） central government controlled local government controlled local State Enterprises (SOE) controlled Non-state legal person controlled Natural person others 1.2 Firm Controller

  10. Central government controlled firms are associated with clearer ownership, ( a little) more transparency, more monitoring more social responsibility， (maybe) better protection of minority shareholders Non-central SOE and non-state legal person controlled firms are associated with less transparency and lack of monitoring up to less social responsibility lack of protection of minority shareholders H2: Firms controlled by central(/local) government are less likely to be associated with scandal 1.2 Firm Controller

  11. 1.3 Board Fama and Jensen (1983) theorize that the board of directors is the highest internal control mechanism responsible for monitoring the actions of top management. -the composition of individuals who serve on the board of directors is an important factor in creating a board that is an effective monitor of management actions Fama’s (1980) and Fama and Jensen’s (1983) theory would predict that higher percentages of independent directors increase the board’s effectiveness as a monitor of management. 1. Corporate Governance

  12. Jensen (1993) argues that boards of director are ineffective monitors when the board is too large, when the board’s equity ownership is small, and when the CEO is also the Chairman of the Board. composition of the board of directors determines its effectiveness DeFond and Jiambalvo (1991) Beasley (1996) Dechow, Sloan and Sweeney (1996), etc. Board composition and disclosure Chen and Jaggi（2000）

  13. The board size H3A: Firm with a larger board size is more likely to be associated with scandal

  14. The board-management relationship The CEO/Chairman H3B: Firm with a separate CEO and Chairman is less likely to be associated with scandal

  15. Independent directors Independent directors, compared with inside directors, are less likely to collude with management H3C: Firms with lower proportion (seats) of independent director on the board of directors are more likely to be associated with scandal

  16. Director holdings H3D: Firms with a higher ratio(number) of directors hold firm stock are less likely to be associated with scandal Chairman Holding H3E: Firms with higher Chairman stock holding are less likely to be associated with scandal

  17. Director Compensation H3F: Firm with higher ratio(number) of director paid are less likely to be associated with scandal

  18. Supervisory Committee size H4A: Firms with a larger Supervisory Committee size is more(less?) likely to be associated with scandal 1.4 Supervisory Committee (Board of Supervisors-监事会)

  19. Supervisory Committee member holdings H4B: Firms with a higher ratio(number) of supervisors hold firm stock is less likely to be associated with scandal 1.4 Supervisory Committee (Board of Supervisors-监事会)

  20. Supervisory Committee member Compensation H4C: Firm with higher ratio (number) of Supervisory Committee member paid is less (or more?) likely to be associated with scandal

  21. 4．Institution investors • 机构投资者能够降低公司内部的代理成本，减少公司管理层的不良行为 Jarrell and Poulsen (1987) Brickley, Lease, and Smith (1988) 机构投资者更倾向于反对减少股东财富的行为 • 机构投资者相比其他类型的投资者而言更需要透明度和信息的披露 Healy et al. (1999) Bushee和Noe (2000) 机构投资者更偏好购买那些持续披露信息的公司的股票

  22. 长期持有公司股票的机构投资者，很可能出于自身的利益而合谋进行不法行为长期持有公司股票的机构投资者，很可能出于自身的利益而合谋进行不法行为 • 机构投资者可以从中得到的益处 财务性的收益，如低于市价的转让价格，阻止封闭式基金的赎回以及承销、财务顾问方面的合同（Barclay, Holderness, 和 Pontiff (1993)） 非财务性的收益，如影响公司在政治、经济或社会方面的政策

  23. 就我国的实际情况而言，基金、证券等机构重仓持有上市公司的股票，利用内部信息进行炒作、牟取暴利已不是秘密就我国的实际情况而言，基金、证券等机构重仓持有上市公司的股票，利用内部信息进行炒作、牟取暴利已不是秘密 因此，在我国机构投资者的持股比例同公司违规行为是正相关还是负相关或不相关需要实证检验。 • H4：Institution holdings are related to the likelihood for firm to commit scandal

  24. Firms confronting with financial distress are more likely to commit financial statement fraud Need control for financials Financial distress

  25. 3. Economic development Firms in more economy developed region are less likely to be associated with scandal

  26. 4.Law Written law LLSV (1998) Allen, Qian, Qian (JFE,forthcoming) Effectiveness of law is more important than the written law in a transition economy Berkowitz et al (2003) Alford (2000) Lu and Yao (2004)

  27. China’s provinces significantly differs in terms of legal development. Whether law effectiveness in the region affects firm’s decision to commit fraud? Maybe law does not matter since law is not effective over all in China?

  28. 四、实证研究方法 （i）变量 • SCANDAL，公司是否被监管机构认定为违规并公开批评,谴责或处罚 控制变量 • DEBT：公司的资产负债率 • ROA：公司的资产收益率 • LIQUIDITY：公司的流动比率

  29. 2．实证回归模型 Matching scandal firms with non-scandal firms Logistic regression Examine firm’s propensity to commit scandal SCANDAL=f(β0+β1GOVERN+β2INSTITUTE+β3BOARD+β4FSIZE+β5DEBT+β6ROA +β7LIQUIDITY+（Other Controls）) （1）

  30. 五、样本与数据 • （一）数据 In order to identify firms that commit scandal, we refer to the China Securities Journal, Shanghai Securities Journal and the Guotaian Dataset for financial scandals. The total number of firms subject to enforcement actions by the CEC, SSE, and SZSE between 1993 and 2003 is 178. We eliminate 12 firms whose governance information in and before the fraud period are not available, 2 firms listed on B-Stock Market of China, and 4 firms that cannot be matched by industry code, and then the sample size is reduced to 160

  31. 虚构利润 • 虚列资产 • 虚假陈述 • 重大遗漏 • 擅自改变资金用途 • 大股东占用资产 • 违规担保

  32. 五、样本与数据 • Each of the scandal firm is matched with a no-scandal firm, creating a choice-based sample of 160 scandal and 160 no-scandal firms. The control firm is obtained by the following four-step process: (i) Stock Exchange (ii)Industry. 3-digit industrial code. If there’s no firm matching the three digits, then select that of the same primary two digits (iii) Firm Size. 53 of 160 committed scandal in a period lasting 2 or more accounting years, and we define the fraud period of these firms as the first date of their financial statement fraud When firms committed scandal and was denounced/criticized/punished more than once, we only record the first time

  33. Sample description

  34. logistic回归分析 • Governance and financials • Add marketization index • Proxy for economics development • Proxy for legal development • Proxy for financial development

  35. Corporate GovernanceOwnership • LARGEST回归系数为负,在5%水平上显著,LARGESTSQ的回归系数为正，在10%水平上显著 • 第一大股东持股比例从零开始增大, 公司越不会commit scandal; • 当第一大股东持股比例达到一定水平,持股比例越高,公司越可能commit scandal; • LOCAL和LEGALP的回归系数为正，LOCAL在5%水平上显著，LEGALP在0.1%水平上显著 非国有法人和地方政府控制的公司更有可能违规

  36. 董事会 • BOARDSIZE, INDEPENDENT均不显著 董事会规模和独立董事席位（比例） • CHAIRCEO不显著 CEO是否兼任董事 • 持股董事人数（比例）和付报酬董事人数（比例）均不显著 • CHAIRHOLDING为负，在10％水平上显著 • 董事长持股比例越高，公司越不会commit scandal

  37. 监事会 • 监事会规模不显著 • 持股监事人数（比例）不显著 • 付报酬监事比例显著为正(10% 水平) 取得报酬的监事比例越高，公司越可能commit scandal

  38. 机构投资者 • 机构投资者持股比例不显著

  39. 分拆上市或整体上市 • 分拆上市或整体上市没有显著影响

  40. Controls • 流动比率的回归系数显著为负 流动比率越高的公司，financial distress的可能较小,违规可能较小 • DEBT的回归系数为正，但统计上不显著 • ROA的回归系数显著为负 资产收益率较高的公司违规可能较小

  41. Region development • Northeast显著为正, 公司发生丑闻的可能性较高 • midyangtz显著为正, 公司发生丑闻的可能性较高

  42. Economic development • lgdppc，该省人均GDP对数值为负，并在统计上显著 经济越发达，公司发生丑闻的可能性越小

  43. Legal development • Measure of legal effectiveness • 检察院 (procuratorial system) • ProcuratorialCases_per_capita: 立案经济案件 • ProcuratorialCases_gdp • Loss_to_GDP: The ratio of saved loss by procuratorial suits to local GDP • Cadre_In_procurate: This measures the corruptness of officials. The number of cadres at county level or above (县处级以上)involved in procuratate divided by the population

  44. Legal development • 法院 (court system) • Case_Close_Rate • RCMP: The number of commercial cases received by the court per million of population • 律师协会 (lawyer association) • Lawyer_per_capita • Lawyer_GDP_Ratio

  45. Legal development • ProcuratorialCases_per_capita ProcuratorialCases_gdp • Show positive relationship to propensity to commit scandal • ? Measures the extent of illegal activity, but not the law effectiveness when the effectiveness of procuratorial system is extremely low

  46. Legal development • RCMP 显著为正, RCMP平方显著为负 • Two different sceneries • When the law effectiveness is extremely low • When law becomes effective (e.g.Shanghai) Better legal environment

  47. Financial development • Measurement • Private_Invest: Obtained by subtracting the fixed-asset investment made by SOEs and collective firms from the total amount of fixed-asset investment in a province • FIN_Competition: Subtracting the credit issued by the four major state banks from the total amount of credit, we get the credit issued by local financial institutions. The proportion of credit issued by local financial institutions to the total amount of credit can serve as a measure of financial competition.

  48. 六、结论 • 公司治理结构对公司发生丑闻的可能性有显著影响 • 财务状况对公司发生丑闻的可能性有显著影响 • 公司所在地区的经济发展水平与公司发生丑闻的可能性负相关 • 所在地区的法制发展与公司发生丑闻的可能性相关

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