Description
The purpose of this paper is to investigate the relative performance of state-owned
enterprises (SOEs) and privately controlled firms in China, and whether related party transactions
(RPTs) add to or subtract from their relative performance, measured by return on assets (ROA).
Accounting Research Journal
Ownership, related party transactions and performance in China
Yezhen Wan Leon Wong
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Yezhen Wan Leon Wong , (2015),"Ownership, related party transactions and performance in China",
Accounting Research J ournal, Vol. 28 Iss 2 pp. 143 - 159
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Ownership, related party
transactions and performance
in China
Yezhen Wan
KPMG, Sydney, New South Wales, Australia, and
Leon Wong
School of Accounting, University of New South Wales, Sydney, Australia
Abstract
Purpose – The purpose of this paper is to investigate the relative performance of state-owned
enterprises (SOEs) and privately controlled frms in China, and whether related party transactions
(RPTs) add to or subtract from their relative performance, measured by return on assets (ROA).
Design/methodology/approach – Univariate and multivariate analyses of a sample of 90 frms that
were listed in China between 2007 and 2009 (comprising 45 SOEs and 45 privately controlled frms
matched on industry and size).
Findings – The authors fnd that SOEs engage in more tunneling, but fnd no evidence that
privately controlled frms engage to a greater degree in either tunneling or propping. During this
period, SOEs outperformed privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs), but their performance advantage was completely offset by tunneling by
about 6 per cent of ROA such that they underperformed privately controlled frms by a net 1.5 per
cent of ROA.
Research limitations/implications – The research is limited by a relatively small sample size, and
in measuring the value of RPTs as the total value of the transactions (which is observable) instead of the
difference between the transaction prices and arms-length prices (which would be preferable but is not
observable).
Practical implications – The economics of investing in Chinese frms with different controlling
interests and RPTs may be of interest not only to investors and other stakeholders in Chinese frms
listed domestically, but also to international investors in overseas and cross-listed Chinese frms.
Originality/value – This paper synthesizes research from ownership on performance and RPTs on
performance, to disentangling the relative effects of ownership control and RPTs on the performance of
Chinese publicly listed frms.
Keywords China, Performance, State-owned enterprises, Privately-controlled frms,
Related party transactions
Paper type Research paper
JEL classifcation – G32, G34, G38, P31
The authors appreciate the comments of Hwee Cheng Tan, Liping Xu and participants of the
China Journal of Accounting Research Symposium 2012 Guangzhou, and Asian Academic
Accounting Association 2012 Kyoto. The authors are especially grateful to Philip Brown for his
support and comments as co-supervisor of Yezhen Wan’s Honors thesis, fromwhich this paper is
derived.
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1030-9616.htm
Related party
transactions
143
Received12 August 2013
Revised8 April 2014
Accepted5 June 2014
Accounting Research Journal
Vol. 28 No. 2, 2015
pp. 143-159
©Emerald Group Publishing Limited
1030-9616
DOI 10.1108/ARJ-08-2013-0053
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1. Introduction
We investigate the relative performance of state-owned enterprises (SOEs) and privately
controlledfrms, andwhether relatedpartytransactions (RPTs) addtoor subtract fromtheir
relative performance, as measured by return on assets (ROA). In doing so, we contribute to
the literature by synthesizing two streams of research, that of the infuence of the form of
ownership control on frm performance and that of RPTs to disentangle, quantify and
allocate the relative effects of state versus private control and RPTs on ROA.
China provides a unique setting to explore the intersection of these two factors. With
respect to ownership control, in China, a controlling interest in most listed frms is held
by the state, rather than by private individuals or families, in contrast to the rest of East
Asia which are mainly controlled by private individuals or families (Claessens et al.,
2000). This is the result of the partial privatization of SOEs via a public share listing and
the state retaining control (Sun and Tong, 2003). There is evidence that private frms are
more effcient and more proftable than SOEs and that privatization improves effciency
and proftability, in both transitional and non-transitional economies[1]. Studies making
cross-sectional comparisons between SOEs and private frms in China are mixed, with
some showing that private frms outperform SOEs (Wei et al., 2005; Chen et al., 2006;
Ding et al., 2008), and others to the contrary (Chen et al., 2009).
In the second stream of research, there are institutional factors that make China a
unique setting to study related party transactions; that is, Chinese frms must maintain
certain levels of proftability to retain their listing status or raise funds. As with the
evidence on ownership control, Chinese evidence on RPTs is mixed and has
concentrated on SOEs and has largely ignored exploring RPTs conducted by privately
controlled frms (Deng et al., 2008; Cheung et al., 2009).
For a sample of 90 frms that were listed in China between 2007 and 2009 (comprising
45 SOEs and 45 privately controlled frms matched on industry and size), we fnd that
SOEs outperform privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs). However, their performance advantage is completely offset by
tunneling amounting to about 6 per cent of ROA, such that they underperformprivately
controlled frms by a net 1.5 per cent of ROA.
We contribute to the literature in the following ways. First, we contribute to corporate
governance research in the areas of ownership control and RPTs by disentangling the
differential effects of state- versus private-controlling ownership and RPTs on performance,
quantifyandallocate its relative contributiontoperformance (i.e. 4.5per cent of ROAinfavor
of SOEs andnegative 6 per cent for RPTs). Second, as China remains a transitional economy
with an institutional bias towards SOEs, extending our study to privately controlled frms
will provide a better understanding of an increasingly important segment of the Chinese
economy that has been relatively under-researched. Third, with China being the world’s
second largest economy[2], the economics of investing in Chinese frms with different
controlling interests and RPTs may be of interest not only to investors and other
stakeholders in Chinese frms listed domestically, but also to international investors in
overseas and cross-listed Chinese frms.
2. Ownership structure and frm performance
Earlier studies of ownership structure in China were of privatized SOEs. Sun and Tong
(2003) found that privatized SOEs improved performance on some measures, such as net
proft, sales and employee productivity, but not on other measures, such as return on
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sales and earnings on sales. In contrast, Wang et al. (2004) and Wei et al. (2005) found
that SOEs were less proftable after stockmarket privatization.
Wei et al. (2003) distinguished between those where at least 50 per cent voting control
were transferred to private investors, and those where the state retained control, and
found that the former outperformed the latter. Similarly, Chen et al. (2008) found that
that frms where control was transferred from SOE to private investors outperformed
those where control was transferred to another state entity.
Chenet al. (2006) and(2009) alsoconsider the performance differentials betweenthe types
of state ownership. Both papers classify the owners into four categories: state asset
management bureaus, other SOEs that report to state central government,
those that report to state local government and privately controlled (defned as a private
blockholder, whichmaybe anindividual or private institution). Chenet al. (2006) fndfor the
period 1991-2000 that private frms outperformed all types of state-controlled frms. Within
SOEs, frms controlled by the central government outperformed those controlled by local
government, which in turn outperformed frms controlled by asset management bureaus.
However, Chen et al. (2009) found that, for an overlapping but later period of 1999-2004, the
central government-controlled SOEs outperformed local government-controlled SOEs,
whichinturnoutperformedstate asset management bureaus, withprivate frms performing
at the same level as state asset management bureaus[3]. However, Ding et al. (2008) which
studied the same 1999-2004 period as Chen et al. (2009) found that family-owned frms
(defned as frms in which the largest shareholder is a family-owned frm or an individual)
achieved signifcantly better performance than SOEs.
Even as we note the mixed evidence regarding the relative performance of SOEs
versus private frms, given a signifcant institutional bias against privately owned frms
in the Chinese economy, a casual observer may wonder why SOEs do not performbetter
than private frms. The Chinese stockmarket was initially intended to be a place where
SOEs could raise funds for restructuring, and displays a bias in favor of SOEs (Ding
et al., 2007; Li, 2010). Wei et al., (2005) describe a situation where “politics trumps
economics”, that is Chinese SOEs are often selected for listing based not on economic
value and attractiveness to investors but on the partial rotation of state companies from
different regions and party power bases. A quota is determined by the State Planning
Commission (SPC), the People’s Bank of China and the China Securities Regulatory
Commission (CSRC)[4] for the number of frms to be listed each year, and then
sub-quotas are allocated to the provinces and regions. The quota system for allocating
listing approvals, and the review process, favor well-connected frms and frms
operating in sectors supported by the government, which are more likely to be SOEs
rather than private frms. Furthermore, Delios et al. (2008) mention that 80 industry
sectors are reserved for SOEs, while 40 are available for private frms; there is tight
control over market entry and a range of local government protectionist policies. Even
with respect to traditional funding sources like bank lending, much of the bank lending
(by state-owned banks) is policy driven towards SOEs, such that many private frms
have to resort to the grey market for lending[5].
One factor that may complicate inferences regarding the association between
ownership structure and frm performance is the split share structure reform that
occurred between 2005 and 2007[6]. In this share structure reform, the previously
non-tradable shares owned by the state and legal persons could be traded after a lockup
period. Gao et al. (2008) fnd that state ownership was reduced after the reform, and that
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there was a positive association between the reduction in state ownership and
performance as measured by ROE. Similarly, Yu (2013) also found that higher level of
state ownership is superior to dispersed ownership in its impact on performance, due to
state support and political connections, and that the split share structure reform
enhanced the positive relationship between state ownership and performance.
Accordingly, taking into account the direct and indirect support enjoyed by SOEs
from state ownership, and the performance improvements after the share structure
reform period, we hypothesize that SOEs outperform private frms by virtue of the
identity of their controlling shareholder:
H1. SOEs outperform privately controlled frms, due to the identity of their
controlling shareholder.
3. Related party transactions and frm performance
One factor that may potentially confound and partially explain the mixed results from
evidence of control on performance in China is the role of RPTs. Chen et al. (2009)
observed that, due to potentially confounding infuences from ownership structure and
RPTs, they could not determine a priori whether private frms outperform SOEs due to
differences in ownership or RPTs. Wang et al. (2004) also conjecture that a possible
explanation for the decline in SOEperformance is that the most proftable business units
are carved out for an IPO, leaving the unproftable units with the parent company, which
subsequently may use of its control rights to tunnel resources fromthe listed frmto the
parent[7].
Chinese studies of RPTs have concentrated on SOEs, given their dominance of the
economy. Cheung et al. (2009) found that SOEs controlled by local government were
more likely to engage in tunneling, while those controlled by central government were
more likely to engage in propping. In cross-sectional studies between types of
ownership, Jian and Wong (2003) compare the role of RPTs on earnings management
between group and non-group frms and conclude that group frms use RPTs to manage
earnings to meet ROE targets[8], more than non-group frms[9]. Deng et al. (2008) fnd
that incompletely restructured SOEs underperformed completely restructured frms, in
terms of ROA and return on sales (ROS) and that 40 per cent of the underperformance
was attributable to tunneling[10].
Jian and Wong (2010) show that Chinese frms propped up to manage earnings to
maintain their listing status[11] or to qualify for a rights issue, and non-state frms have
lower levels of RPTs compared to local and central government controlled frms.
However, this was not entirely altruistic as frms that are propped up would tunnel back
via related party lending after meeting the relevant targets. Similarly, Aharony et al.
(2010) show that frms going for an IPOs on the Shanghai stock exchange had their
earnings propped up by the parent companies pre-IPO to raise more capital in the IPO,
with assets tunneled back post-IPO. A more recent study, Ying and Wang (2013) found
a similar result. Peng et al. (2011) found that controlling shareholders would choose to
tunnel unless there is an adverse shock such that they would prop up the frmto stay in
business. They also fnd that RPTs could be used for both tunneling or propping up
though at different times and depending on the fnancial situation of the frm.
IncomparingRPTs before andafter the share structure reform, Hwanget al. (2008) found
the relationbetweenTobin’s QandoperatingRPTs pre-reformto be weaklysignifcant, but
during the reformperiod, they found no difference in the effect of RPTs on the Tobin’s Qof
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frms that had completed the reform relative to those that had not. They also found that
investors react less to RPTannouncements post-reformrelative to pre-reform.
Cheung et al. (2009) classifed RPTs into seven categories, which were labeled
tunneling or propping on an a priori basis. Tunneling was found to be more frequent
than propping, while propped up frms were more likely to have foreign shareholders
and to be cross-listed abroad, as well as having poorer prior operating performance.
Tunneling was concentrated among frms with state ownership and was not present
among frms with private ownership[12].
Jiang et al. (2010) study related party loans and fnd that tunneling was more severe
for non-state-owned frms than SOEs, and more prevalent for SOEs controlled by local
government than the central government[13], and that the related party loan balances
were associated with poorer future ROAs. Berkman et al. (2009) fnd that loan
guarantees are negatively related to frm value and frms with state non-corporate
owners were less likely to issue loan guarantees than those with other ownership types
(i.e. state corporate, private and foreign controlled). On the other hand, Gao and Kling
(2008) do not fnd evidence that SOEs were more likely to suffer from tunneling[14].
On balance, the evidence on RPTs in China is that tunneling is more prevalent than
propping, and is more likely to occur with SOEs. Where propping occurs, it is often
motivated by a desire to manage earnings to achieve thresholds for IPOs, with
subsequent tunneling back to the controlling shareholders. However, these studies do
not consider whether state versus private control has a bearing on the association
between RPTs and frm performance. Taking into account the prior evidence, we
hypothesize that listed SOEs are more likely to engage in tunneling activities via RPTs,
compared to private frms, which has an adverse effect on their relative performance. To
reduce the risk of being delisted, the controlling shareholder in a privately controlled
listed company can provide private resources to the company to enhance its
performance. Listed privately controlled frms are likely to be propped up in this way.
As such, we hypothesize that private frms are more likely to engage in propping than
SOEs, and this will also have a positive effect on their performance:
H2a. SOEs are more likely to engage in tunneling than privately controlled frms,
and this will impact negatively on performance.
H2b. Privately controlled frms are more likely to engage in propping than SOEs,
and this will impact positively on performance.
4. Research design
4.1 Sample selection
The effect on frm performance of ownership structure and RPTs is examined over the
period 2007-2009. From around 2005, China underwent a share reform program where
state and legal person shares became tradable after a lock-up period, which ended in
2007 for most frms. To reduce possible confounding effects from the share reform
(Yu, 2013), we start our sample period with 2007. Furthermore, with the introduction of
Chinese Accounting Standard No. 36 (2006) Accounting Standard for Business
Enterprises-Disclosure of Related Party Relationships and Transactions (Section 4.4),
detailed disclosure of RPTs was available mainly from 2007 onwards.
Financial, stock price and share ownership data are obtained from the Orbis
database. Related party transaction data were hand-collected from annual reports. Of
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the full sample of 1,404 Chinese frms as at June 2010, 704 had readily available
ownership information. From the Orbis database search queries, 30 frms were
identifed as privately controlled. We identifed another 15 frms as privately controlled
from a list of privately listed frms[15]. These 45 privately controlled frms were then
matched with 45 state-owned frms by industry and size, giving a total number of 90
frms and 270 frm-year observations. Any missing fnancial data were manually
collected from annual reports. Shareholder ownership status and data were
cross-checked against the annual reports and several external sources, such as Chinese
State-Owned Assets Supervision and Administration Commission of the State Council
website[16] and fnancial stockmarket websites[17].
Each privately controlled listed frm is matched to a SOE, primarily on industry and
secondarily on approximate size[18]. We generally observe that SOEs are signifcantly
larger than their private counterparts. This may be due to the historical institutional bias
against privately controlled frms in the Chinese equity market as well as the dominance of
SOEs in industries that are of strategic national importance, such as communication
services.
4.2 Regression model
To test the our hypotheses, we estimate the following model using ordinary least
squares (OLS):
ROA ? ?
0
? ?
1
SIZE ? ?
2
SALES ? ?
3
LEV ? ?
4
GROWTH ? ?
5
PRIV
? ?
6
RPT ? ?
7
PRIV * RPT ? D2008 ? D2009 ? ?
(1)
where:
ROA ?Return on assets, calculated as EBITDA divided by total assets;
SIZE ?Natural logarithm of total assets;
SALES ?Natural logarithm of annual sales;
LEV ?Total value of debt divided by total shareholders’ funds;
GROWTH ?Capital expenditure divided by average total assets;
RPT ?Total amount of RPTs divided by average total assets;
RPT_TUN ?Total amount of RPTs which are classifed as tunneling, divided by
average total assets;
RPT_PROP ? Total amount of RPTs that are classifed as propping, divided by
average total assets;
PRIV ?Dummy variable equal to 1 if it is a privately-controlled frm, and 0
otherwise; and
D2008, D2009 ?Year dummy variables to address year fxed effects.
To address fxed effects in the panel data, we include year dummy variables and adjust
for clustering by frm.
4.3 Measuring performance and control
Firm performance is measured by ROA (Deng et al., 2008; Jiang et al., 2010), which is
defned as earnings before interest, tax, depreciation and amortization divided by
average total assets. We choose ROA as the primary performance variable because one
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RMB of resources tunneled (propped up) would translate readily into one RMB of
EBITDA less (more) to shareholders of the listed frm.
To deal with potential confounding effects in the classifcation of the controlling
shareholder, we defne the controlling shareholder as the largest shareholder with at
least a 20 per cent shareholding in the listed frmas identifed in the listed frm’s annual
report. Following Liu and Sun (2005) and Chen et al. (2006, 2009), we trace the ultimate
controlling shareholder, classify them as private frms (PRIV) or SOEs. For SOEs, the
controlling shareholder is an entity identifed with the state; for private frms, it is an
individual or entity that can be ultimately traced to an individual or family. If a frm’s
ultimate shareholders cannot be established with certainty as being either individuals/
families or SOEs, the frm is excluded from the sample[19].
4.4 Classifying RPTs
Chinese Accounting Standard No. 36 (2006) Accounting Standard for Business
Enterprises-Disclosure of Related Party Relationships and Transactions[20] requires
listed companies to disclose RPTs in the notes to the fnancial statements by 13
categories. Related parties include the listed company’s parent company and any of its
affliates, and other parties such as the second largest corporate shareholder, the
company’s management, board members, controlling owners or members of the
immediate families of any of these groups. We collect data by each category, and
following Chen et al. (2009), we classify them as tunneling or propping on a priori
basis[21]. Tunneling transactions are:
• purchases;
• sales of goods;
• rendering and accepting;
• services between the listed frm and its related parties;
• assets acquisitions;
• sales between the listed frm and its related parties;
• provision of loans or loan guarantees by related parties;
• rental and lease expenses;
• emoluments; and
• other payments by the listed frm to related parties.
Propping transactions are:
• loans and loan guarantees granted by related parties to the listed frm, thereby
providing easier access to capital fnancing and possibly avoiding any
performance requirements that would be imposed on the listed frm were it to
borrow from other fnancial institution;
• lease; and
• other income paid to the listed frmby related parties which can beneft the listed
frm in the form of increased revenue.
All values of RPTs are defated by average total assets over a one-year period.
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4.5 Control variables
The control variables are drawn from studies of ownership and related party
transactions (Ding et al., 2008; Cheung et al., 2009; Jiang et al., 2010). Growth
opportunities (GROWTH) are measured as capital expenditure scaled by total assets,
and leverage (LEV) is measured as the book value of debt divided by the book value of
equity, and sales are measured as the natural logarithm of annual sales (SALES). As
previously mentioned, due to imperfect matching on size, we include size as a control
variable measured by the natural logarithm of total assets (SIZE).
5. Results
5.1 Descriptive statistics
Table I reports the descriptive statistics. In Panel A, the average ROAacross the full sample
is 6.66 per cent. We observe statistically insignifcant differences between the means of the
two groups, 6.91 per cent compared to 6.42 per cent for privately controlled and SOEs,
respectively. However, the difference inmedians is statisticallysignifcant for ROA(8.97 per
cent versus 6.04 per cent), with privately controlled frms outperforming SOEs. Panel B
confrms that despite matching privately controlled frms and SOEs by industry and size,
there are still signifcant differences in the two sub-samples. For example, in comparing
between privately controlled and SOEs, the means of SIZE and GROWTHand medians of
SIZE, GROWTHand LEVare statistically different. In Panel C, we see that the mean RPTs
are not statistically signifcantly different between SOEs and privately controlled frms.
Likewise, the mean of RPTs associated with tunneling (RPT_TUN) is higher in SOEs than
privately controlled frms (15.78 per cent and 14.85 per cent, respectively) but is not
statisticallysignifcant. However, the meanof RPTs associatedwithpropping(RPT_PROP)
is statistically signifcant and higher in privately controlled than SOEs (11.51 per cent and
7.47 per cent, respectively), but in this case, the difference in medians is not statistically
signifcant.
Table II reports correlation statistics. In general, the control variables, SIZE, SALES,
LEV and GROWTH are correlated with ROA. All of the related party transaction
variables (RPT, RPT_TUN and RPT_PROP) are correlated with LEV. This can be
explained by loans and loan guarantees accounting for a signifcant portion of RPTs.
Generally, RPTs are positively related to SALES, which is unsurprising, as RPTs often
take the form of sales of goods and services.
5.2 Private control and RPTs
Table III reports the results from regressions explaining the effects of RPTs on ROA,
whether from tunneling or propping. To assist the interpretation of the results, the
continuous independent variables have been standardized to have mean 0 and standard
deviation 1, and the dummy and interaction variables have been transformed by
subtracting their means. This results in the constant term in the regression being the
mean of the dependent variable. The coeffcient of a continuous independent variable
indicates the change in the dependent variable predicted for a one-standard deviation
change in the independent variable, other things being equal.
Across the results presented in Table III, SALES and GROWTH are signifcantly
associated with ROA in the predicted direction, but SIZE, LEV are not. In columns B, C
and D, PRIV is statistically signifcant at the 10 per cent level (one tailed) with the
ARJ
28,2
150
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
0
:
5
3
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Table I.
Descriptive statistics
for regression
variables
V
a
r
i
a
b
l
e
C
h
a
r
a
c
t
e
r
i
s
t
i
c
s
o
f
v
a
r
i
a
b
l
e
s
D
i
f
f
e
r
e
n
c
e
i
n
m
e
a
n
a
n
d
m
e
d
i
a
n
(
A
)
(
B
)
(
C
)
(
D
)
F
u
l
l
(
N
?
2
7
0
)
P
r
i
v
a
t
e
(
P
R
I
V
)
(
N
?
1
3
5
)
S
t
a
t
e
(
N
?
1
3
5
)
S
t
a
t
e
v
e
r
s
u
s
p
r
i
v
a
t
e
M
e
a
n
M
e
d
i
a
n
S
D
M
e
a
n
M
e
d
i
a
n
S
D
M
e
a
n
M
e
d
i
a
n
S
D
t
-
v
a
l
u
e
a
Z
-
v
a
l
u
e
b
P
a
n
e
l
A
:
p
e
r
f
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r
m
a
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c
e
v
a
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a
b
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e
R
O
A
0
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0
6
6
6
0
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0
7
3
0
0
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2
6
7
6
0
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0
6
9
1
0
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0
8
9
7
0
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3
7
1
6
0
.
0
6
4
2
0
.
0
6
0
4
0
.
0
7
5
4
?
0
.
1
5
3
.
7
8
*
*
*
P
a
n
e
l
B
:
c
o
n
t
r
o
l
v
a
r
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b
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E
1
4
.
4
7
2
7
1
4
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3
6
2
7
1
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0
2
7
8
1
4
.
3
6
8
6
1
4
.
1
4
6
0
1
.
1
0
7
6
1
4
.
5
7
6
8
1
4
.
4
8
6
4
0
.
9
3
3
8
1
.
6
7
*
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2
.
2
7
*
*
S
A
L
E
S
1
4
.
0
6
8
7
1
3
.
9
4
3
1
1
.
6
0
6
2
1
4
.
0
7
2
6
1
4
.
0
6
3
5
1
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8
6
4
7
1
4
.
0
6
4
9
1
3
.
8
0
6
1
1
.
3
0
4
4
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0
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0
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9
3
L
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0
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5
7
5
3
0
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5
2
8
4
0
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3
8
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3
0
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5
5
7
2
0
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4
8
3
9
0
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1
9
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5
9
3
4
0
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6
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2
4
0
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2
5
8
8
0
.
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6
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.
0
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*
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*
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R
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W
T
H
0
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0
5
7
5
0
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0
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7
7
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6
2
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0
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4
8
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0
4
5
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7
2
8
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3
1
0
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8
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1
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8
4
*
?
2
.
9
3
*
*
*
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n
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l
C
:
R
P
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v
a
r
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a
b
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P
T
0
.
2
5
9
1
0
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1
5
5
9
0
.
3
5
0
5
0
.
2
7
6
2
0
.
1
6
6
6
0
.
4
1
7
8
0
.
2
4
2
1
0
.
1
3
2
1
0
.
2
6
7
4
?
0
.
8
0
0
.
2
5
R
P
T
_
T
U
N
0
.
1
5
3
1
0
.
0
5
4
7
0
.
2
7
4
2
0
.
1
4
8
5
0
.
0
4
3
2
0
.
3
1
6
5
0
.
1
5
7
8
0
.
0
7
0
3
0
.
2
2
5
1
0
.
2
8
?
1
.
0
5
R
P
T
_
P
R
O
P
0
.
0
9
4
9
0
.
0
3
0
7
0
.
1
4
3
0
0
.
1
1
5
1
0
.
0
5
0
2
0
.
1
6
3
3
0
.
0
7
4
7
0
.
0
2
5
0
0
.
1
1
6
4
?
2
.
3
4
*
*
1
.
6
3
N
o
t
e
s
:
*
*
*
;
*
*
a
n
d
*
r
e
p
r
e
s
e
n
t
s
t
a
t
i
s
t
i
c
a
l
l
y
d
i
f
f
e
r
e
n
t
f
r
o
m
0
i
n
t
-
t
e
s
t
f
o
r
m
e
a
n
s
a
n
d
i
n
t
h
e
M
a
n
n
-
W
h
i
t
n
e
y
U
t
e
s
t
f
o
r
m
e
d
i
a
n
s
a
t
t
h
e
1
,
5
a
n
d
1
0
%
l
e
v
e
l
s
,
r
e
s
p
e
c
t
i
v
e
l
y
;
a
t
-
v
a
l
u
e
i
s
c
a
l
c
u
l
a
t
e
d
f
r
o
m
t
h
e
t
-
t
e
s
t
o
f
d
i
f
f
e
r
e
n
c
e
s
i
n
m
e
a
n
s
;
b
Z
-
v
a
l
u
e
i
s
c
a
l
c
u
l
a
t
e
d
f
r
o
m
t
h
e
M
a
n
n
-
W
h
i
t
n
e
y
U
t
e
s
t
o
f
d
i
f
f
e
r
e
n
c
e
s
i
n
m
e
d
i
a
n
s
;
t
h
i
s
t
a
b
l
e
p
r
e
s
e
n
t
s
d
e
s
c
r
i
p
t
i
v
e
s
t
a
t
i
s
t
i
c
s
f
o
r
r
e
g
r
e
s
s
i
o
n
v
a
r
i
a
b
l
e
s
f
o
r
t
h
e
f
u
l
l
s
a
m
p
l
e
a
s
w
e
l
l
a
s
1
3
5
f
r
m
-
y
e
a
r
o
b
s
e
r
v
a
t
i
o
n
s
o
n
p
r
i
v
a
t
e
l
y
c
o
n
t
r
o
l
l
e
d
l
i
s
t
e
d
f
r
m
s
a
n
d
1
3
5
f
r
m
-
y
e
a
r
o
b
s
e
r
v
a
t
i
o
n
s
o
n
s
t
a
t
e
-
o
w
n
e
d
l
i
s
t
e
d
f
r
m
s
f
o
r
t
h
e
p
e
r
i
o
d
b
e
t
w
e
e
n
2
0
0
7
a
n
d
2
0
0
9
;
C
o
l
u
m
n
s
(
A
)
c
o
n
t
a
i
n
t
h
e
m
e
a
n
s
,
m
e
d
i
a
n
s
a
n
d
s
t
a
n
d
a
r
d
d
e
v
i
a
t
i
o
n
s
f
o
r
t
h
e
f
u
l
l
s
a
m
p
l
e
;
c
o
l
u
m
n
s
(
B
)
a
n
d
(
C
)
r
e
p
o
r
t
s
m
e
a
n
s
,
m
e
d
i
a
n
s
a
n
d
s
t
a
n
d
a
r
d
d
e
v
i
a
t
i
o
n
s
f
o
r
p
r
i
v
a
t
e
l
y
c
o
n
t
r
o
l
l
e
d
l
i
s
t
e
d
f
r
m
s
a
n
d
s
t
a
t
e
-
o
w
n
e
d
l
i
s
t
e
d
f
r
m
s
,
r
e
s
p
e
c
t
i
v
e
l
y
;
C
o
l
u
m
n
s
(
D
)
r
e
p
o
r
t
t
h
e
d
i
f
f
e
r
e
n
c
e
i
n
m
e
a
n
s
a
n
d
m
e
d
i
a
n
s
f
r
o
m
c
o
l
u
m
n
s
(
B
)
a
n
d
(
C
)
;
R
O
A
?
n
e
t
i
n
c
o
m
e
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
;
S
I
Z
E
?
n
a
t
u
r
a
l
l
o
g
o
f
t
o
t
a
l
a
s
s
e
t
s
;
S
A
L
E
S
?
n
a
t
u
r
a
l
l
o
g
o
f
a
n
n
u
a
l
s
a
l
e
s
;
L
E
V
E
R
A
G
E
?
t
o
t
a
l
l
i
a
b
i
l
i
t
i
e
s
d
i
v
i
d
e
d
b
y
t
o
t
a
l
a
s
s
e
t
s
;
G
R
O
W
T
H
?
a
n
n
u
a
l
c
a
p
i
t
a
l
e
x
p
e
n
d
i
t
u
r
e
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
;
P
R
I
V
?
d
u
m
m
y
v
a
r
i
a
b
l
e
f
o
r
a
p
r
i
v
a
t
e
l
y
c
o
n
t
r
o
l
l
e
d
f
r
m
(
e
q
u
a
l
t
o
1
i
f
t
h
e
u
l
t
i
m
a
t
e
c
o
n
t
r
o
l
l
i
n
g
s
h
a
r
e
h
o
l
d
e
r
i
s
a
n
i
n
d
i
v
i
d
u
a
l
o
r
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n
d
i
v
i
d
u
a
l
s
,
a
n
d
0
o
t
h
e
r
w
i
s
e
)
;
R
P
T
?
t
h
e
m
a
g
n
i
t
u
d
e
(
i
n
a
b
s
o
l
u
t
e
t
e
r
m
s
)
o
f
a
l
l
R
P
T
s
i
n
t
h
e
c
u
r
r
e
n
t
f
n
a
n
c
i
a
l
y
e
a
r
,
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
;
R
P
T
_
T
U
N
?
t
h
e
a
m
o
u
n
t
o
f
R
P
T
s
t
h
a
t
a
r
e
c
l
a
s
s
i
f
e
d
a
s
t
u
n
n
e
l
i
n
g
,
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
;
R
P
T
_
P
R
O
P
?
t
h
e
a
m
o
u
n
t
o
f
R
P
T
s
t
h
a
t
a
r
e
c
l
a
s
s
i
f
e
d
a
s
“
p
r
o
p
p
i
n
g
”
,
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
151
Related party
transactions
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
0
:
5
3
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Table II.
Correlation statistics
P
e
a
r
s
o
n
p
r
o
d
u
c
t
-
m
o
m
e
n
t
c
o
r
r
e
l
a
t
i
o
n
c
o
e
f
f
c
i
e
n
t
s
(
N
?
2
7
0
)
R
O
A
S
I
Z
E
S
A
L
E
S
L
E
V
E
R
A
G
E
G
R
O
W
T
H
P
R
I
V
R
P
T
R
P
T
_
T
U
N
R
P
T
_
P
R
O
P
S
p
e
a
r
m
a
n
r
a
n
k
-
o
r
d
e
r
c
o
r
r
e
l
a
t
i
o
n
c
o
e
f
f
c
i
e
n
t
(
N
?
2
7
0
)
R
O
A
0
.
1
3
7
3
*
*
0
.
5
3
9
0
*
*
*
?
0
.
2
7
8
9
*
*
*
0
.
1
3
4
7
*
*
0
.
0
0
9
3
?
0
.
0
2
4
0
?
0
.
0
1
8
0
?
0
.
0
7
8
7
p
(
0
.
0
2
)
(
?
0
.
0
0
)
(
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ARJ
28,2
152
D
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d
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P
O
N
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(
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)
predicted sign. It is also economically signifcant, suggesting that privately controlled
frms underperform SOEs by around 4.5 per cent.
In column A, RPT is signifcant at the 10 per cent level and, in column C, it is not
signifcant; but when the interaction term is added (column D), RPT and PRIV ?
RPT are statistically signifcant and in the predicted direction, suggesting that the
model specifcation has been improved by the inclusion of the interaction term. In
column D, the coeffcient for RPT is statistically and economically signifcant,
indicating that a one standard deviation increase in RPTs results in a ROA decline
of 6.2 per cent ( p ? 0.01, one tailed) for SOEs; without tunneling SOE, ROAs could
be more than 12 per cent (constant: 6.7 per cent ?RPT: 6.2 per cent). The coeffcient
for PRIV ? RPT is 6.3 per cent ( p ? 0.01, one tailed) and statistically signifcant;
however, summing the coeffcient for PRIV ? RPT and RPT together yields a net
approximate value of 0, indicating that privately controlled frms do not beneft
from RPTs, at least compared to SOEs.
These results support H1, namely, that SOEs outperform privately controlled
frms because of their state support, and is consistent with Chen et al. (2009), who
show that the various forms of SOEs outperform private frms, at least before
accounting for RPTs. The results also support H2a that SOEs are more likely to
beneft from tunneling compared to privately controlled frms, consistent with
Table III.
ROA performance:
ownership and
related party
transactions
Variables Predicted sign (A) (B) (C) (D)
Constant 0.067*** 0.067*** 0.067*** 0.067***
(5.381) (5.427) (5.447) (5.554)
SIZE ? ?0.179 ?0.182 ?0.185 ?0.181
(?2.543) (?2.657) (?2.653) (?2.718)
SALES ? 0.292*** 0.292*** 0.296*** 0.298***
(2.679) (2.797) (2.791) (2.894)
LEVERAGE ? ?0.060 ?0.066 ?0.060 ?0.063
(?2.911) (?2.965) (?2.720) (?3.227)
GROWTH ? 0.030*** 0.032*** 0.032*** 0.030***
(2.647) (2.575) (2.607) (2.520)
PRIV ? ?0.046* –0.045* ?0.043*
(?1.510) (?1.481) (?1.477)
RPT ? ?0.018* ?0.017 ?0.062***
(?1.296) (?1.207) (?2.472)
PRIV ? RPT ? 0.063***
(2.507)
F 3.338 3.390 2.873 4.151
Adjusted R
2
56.6% 56.9% 57.1% 58.1%
N 270 270 270 270
Notes: The continuous independent variables have been standardized to have mean 0 and standard
deviation 1, such that their coeffcient indicates the marginal change in the dependent variable predicted
for a one-standard deviation increase in that independent variable; the other independent variables have
been transformed by subtracting the mean; to address fxed effects in the panel data, year dummy
variables are included (not shown for brevity) and coeffcient values and t-statistics are adjusted for
clustering by frm; ***indicates signifcance at p ? 0.01; **p ? 0.05 and *p ? 0.1 (one tailed where
there is a predicted sign, two tailed otherwise); the variables are defned in Table I
153
Related party
transactions
D
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Cheung et al. (2009). However, on a net basis, the SOE’s outperformance of 4.5 per
cent is offset by tunneling of around 6 per cent resulting a net ROA private frm
outperformance of about 1.5 per cent relative to SOEs, consistent with studies that
report that private frms outperform SOEs, including Chen et al. (2006) and Ding
et al. (2008). These fndings show that frm performance can be better explained by
disentangling the effects of ownership control and RPTs, as well as the interactions
between the two factors, and may help to explain the apparently mixed evidence on
the performance of SOEs relative to privately controlled frms.
5.3 RPTs: tunneling versus propping up
In Table IV, we report the effects of tunneling and propping RPTs on ROA. Across
columns Cto H, PRIVis statistically signifcant at the 10 per cent level with the predicted
sign, indicating that privately controlled frms underperformSOEs by about 4.5 per cent
in terms of ROA. RPT_TUN is not statistically signifcant in columns B, D and E, but
when interaction terms are added, the coeffcient for RPT_TUN is statistically
signifcant and about ?5.8 per cent ( p ? 0.01, one tailed, columns F and H) for SOEs,
that is for SOEs engaged in tunneling, a one standard deviation increase in tunneling
will lead to a decline in ROA of around 6 per cent. In column H, PRIV ?RPT_TUN is
0.067 (p ?0.01, one tailed). When added to the coeffcient of RPT_TUN(?0.058), it has
the value of 0.009 which is close to zero in magnitude, indicating that privately
controlled frms are not affected by tunneling, relative to SOEs.
Across all columns, RPT_PROP is not statistically signifcant, and in column H,
PRIV ?RPT_PROP is also not signifcant. Furthermore, the sum of the coeffcients
of RPT_PROP (?0.023) and PRIV ?RPT_PROP (0.007) in column H, that is ?0.016
indicates that privately controlled frms do not beneft from propping transactions
(inconsistent with H2b).
In sum, the evidence in Table IV is consistent with Table III in that frm
performance can partly be explained by disentangling the effects of ownership
structure and RPTs. In particular, we fnd that, before taking RPTs into account,
privately controlled frms underperformSOEs by about 4.5 per cent in terms of ROA
(H1). However, after tunneling 6 per cent worth of ROA, SOEs underperform
privately controlled frms by a net 1.5 per cent of ROA.
6. Conclusion
We investigate the relative performance of SOEs and privately controlled frms, and
whether RPTs add to or subtract fromtheir relative performance. For a sample of 90 listed
frms in China between 2007 and 2009 (comprising 45 SOEs and 45 privately controlled
frms and 45 matched on industry and size), we fnd that SOEs are more likely to tunnel, but
fnd no evidence that privately controlled frms beneft from either tunneling or propping.
SOEs outperformed privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs), but their performance advantage was offset by tunneling
transactions that amounted to about 6 per cent of ROA, such that they underperformed
privately controlled frms by a net 1.5 per cent of ROA.
We acknowledge two limitations. The frst is the relatively small sample size of 45
privately controlled frms and the same number of (matched) SOEs. The second
limitation is measuring the value of RPTs as the total value of the transactions (which is
observable) instead of the difference between the transaction prices and arms-length
ARJ
28,2
154
D
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Table IV.
ROA performance:
RPTs classifed into
tunneling and
propping
transactions
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155
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prices (which would be preferable but is not observable). Despite these limitations, we
were able to show that disentangling the relative impact of the type of ownership (
state versus private) and of RPTs provides a fuller explanation of the performance of
Chinese publicly listed frms, and a reconciliation of the existing contradictory evidence
of the relative performance of state versus private frms.
Notes
1. See Megginson and Netter (2001) for a survey of research on privatization and Li and
Putterman (2008) for a survey of research into China’s SOE reform experience.
2. BBC, China overtakes Japan as world’s second biggest economy. 14 February 2011. www.
bbc.co.uk/news/business-12427321
3. The difference in results at least between the relative performance of private versus the
different forms of SOEs is particularly noteworthy as these two studies share common
authors. However, this difference is not explained in the later paper.
4. CSRC Notice on the Public Offerings, December 1996; repealed in May 2006.
5. See for example, http://mpettis.com/2011/06/small-companies-feel-the-pain-in-china-2/,
and www.atimes.com/atimes/China_Business/MH26Cb02.html, for articles regarding the
challenges faced by private small and medium enterprises and the grey lending
market.
6. China Securities Regulatory Commission (CSRC) 2005 (Circular on issues relating to the pilot
reform of listed companies’ split share structure, No. 32; Guidelines on the reform of listed
companies share split structure, No. 80).
7. Deng et al. (2008) also describe the carving out and listing of proftable businesses of
SOEs.
8. For example, according to CSRC Notice No.12 introduced in 1999, companies are required to
achieve an average ROE of at least 10 per cent as well as a minimum of 6 per cent in each of
the three years prior to a rights issue.
9. Group frms are defned as conglomerates of various levels of government, and non-group
frms are state asset management bureaus, township and village enterprises and
privately owned frms. Adding to confounding effects, as in this case, studies sometimes
lump privately owned frms together with certain classes of SOEs, such as state asset
management bureaus.
10. Completely restructured frms are SOEs in the process of privatization with the state
retaining control but where the most productive part of the frm is split out for public
listing leaving the parent SOE under state ownership. Partially restructured SOEs are
those in which control is transferred fromthe state to the private sector. The paper did not
describe how control was defned.
11. According to delisting rules introduced by CSRC in 2001, frms listed on the Chinese stock
market are subject to certain unique earnings-based delisting rules. Firms that report two
consecutive annual losses are subject to special treatment by the stock exchange regulator. If
such a company is unable to report a proft within two to three years, it will be further
downgraded and may be suspended or delisted by the regulator.
12. Firms with state ownership were classifed as government controlled, while private
ownership frms were classifed as not being government controlled.
ARJ
28,2
156
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13. SOEs were defned as a frm in which the largest shareholder is any level of government or
government-owned institution. Non-state owned frms are not clearly defned, and are
presumably frms that are not classifed as SOEs.
14. State ownership is defned as where the state ultimately controls the company, where control
is based on the pyramid ownership structure. Private frms are not defned.
15. Chinese Securities Index Co. Ltd.: www.csindex.com.cn/sseportal_en/csiportal/zs/jbxx/
report.do?code?000938&&subdir?1
16. Chinese State-Owned Assets Supervision and Administration Commission of the State
Council website: www.sasac.gov.cn/n2963340/2964236.html/
17. These were Sina Finance (China): http://fnance.sina.com.cn/ and Yahoo Finance (China):
http://fnance.yahoo.com.cn/
18. Industry matching was conducted using the National Primary Codes. If the identifed
privately controlled listed frm did not have a corresponding SOE listed frm under the same
National Primary Code, the US SIC code was used.
19. Some previous papers have not distinguished clearly private and state controlled frms. For
example, Jian and Wong (2003) distinguish between group and non-group frms but some
non-group companies may be ultimately controlled by the state. Ding et al. (2007) defne
privately controlled listed frms as those that are controlled by private individuals or private
companies, but private companies may be ultimately owned by state entities. Berkman et al.
(2009) include security companies as private frms, along with investment funds, private
companies, private individuals and work unions.
20. Chinese Accounting Standards Committee: http://extranet.casc.gov.cn/internet/internet/en/
kjfg2/nationalreg/qykjzz/entrereg_relation.html
21. Cheung et al. (2009) had only seven categories as their sample period of 2001-2002 was
prior to CAS36. We utilize the 13 categories which were required to be disclosed from
2006.
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Corresponding author
Leon Wong can be contacted at: [email protected]
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159
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doc_836541403.pdf
The purpose of this paper is to investigate the relative performance of state-owned
enterprises (SOEs) and privately controlled firms in China, and whether related party transactions
(RPTs) add to or subtract from their relative performance, measured by return on assets (ROA).
Accounting Research Journal
Ownership, related party transactions and performance in China
Yezhen Wan Leon Wong
Article information:
To cite this document:
Yezhen Wan Leon Wong , (2015),"Ownership, related party transactions and performance in China",
Accounting Research J ournal, Vol. 28 Iss 2 pp. 143 - 159
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Ownership, related party
transactions and performance
in China
Yezhen Wan
KPMG, Sydney, New South Wales, Australia, and
Leon Wong
School of Accounting, University of New South Wales, Sydney, Australia
Abstract
Purpose – The purpose of this paper is to investigate the relative performance of state-owned
enterprises (SOEs) and privately controlled frms in China, and whether related party transactions
(RPTs) add to or subtract from their relative performance, measured by return on assets (ROA).
Design/methodology/approach – Univariate and multivariate analyses of a sample of 90 frms that
were listed in China between 2007 and 2009 (comprising 45 SOEs and 45 privately controlled frms
matched on industry and size).
Findings – The authors fnd that SOEs engage in more tunneling, but fnd no evidence that
privately controlled frms engage to a greater degree in either tunneling or propping. During this
period, SOEs outperformed privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs), but their performance advantage was completely offset by tunneling by
about 6 per cent of ROA such that they underperformed privately controlled frms by a net 1.5 per
cent of ROA.
Research limitations/implications – The research is limited by a relatively small sample size, and
in measuring the value of RPTs as the total value of the transactions (which is observable) instead of the
difference between the transaction prices and arms-length prices (which would be preferable but is not
observable).
Practical implications – The economics of investing in Chinese frms with different controlling
interests and RPTs may be of interest not only to investors and other stakeholders in Chinese frms
listed domestically, but also to international investors in overseas and cross-listed Chinese frms.
Originality/value – This paper synthesizes research from ownership on performance and RPTs on
performance, to disentangling the relative effects of ownership control and RPTs on the performance of
Chinese publicly listed frms.
Keywords China, Performance, State-owned enterprises, Privately-controlled frms,
Related party transactions
Paper type Research paper
JEL classifcation – G32, G34, G38, P31
The authors appreciate the comments of Hwee Cheng Tan, Liping Xu and participants of the
China Journal of Accounting Research Symposium 2012 Guangzhou, and Asian Academic
Accounting Association 2012 Kyoto. The authors are especially grateful to Philip Brown for his
support and comments as co-supervisor of Yezhen Wan’s Honors thesis, fromwhich this paper is
derived.
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1030-9616.htm
Related party
transactions
143
Received12 August 2013
Revised8 April 2014
Accepted5 June 2014
Accounting Research Journal
Vol. 28 No. 2, 2015
pp. 143-159
©Emerald Group Publishing Limited
1030-9616
DOI 10.1108/ARJ-08-2013-0053
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1. Introduction
We investigate the relative performance of state-owned enterprises (SOEs) and privately
controlledfrms, andwhether relatedpartytransactions (RPTs) addtoor subtract fromtheir
relative performance, as measured by return on assets (ROA). In doing so, we contribute to
the literature by synthesizing two streams of research, that of the infuence of the form of
ownership control on frm performance and that of RPTs to disentangle, quantify and
allocate the relative effects of state versus private control and RPTs on ROA.
China provides a unique setting to explore the intersection of these two factors. With
respect to ownership control, in China, a controlling interest in most listed frms is held
by the state, rather than by private individuals or families, in contrast to the rest of East
Asia which are mainly controlled by private individuals or families (Claessens et al.,
2000). This is the result of the partial privatization of SOEs via a public share listing and
the state retaining control (Sun and Tong, 2003). There is evidence that private frms are
more effcient and more proftable than SOEs and that privatization improves effciency
and proftability, in both transitional and non-transitional economies[1]. Studies making
cross-sectional comparisons between SOEs and private frms in China are mixed, with
some showing that private frms outperform SOEs (Wei et al., 2005; Chen et al., 2006;
Ding et al., 2008), and others to the contrary (Chen et al., 2009).
In the second stream of research, there are institutional factors that make China a
unique setting to study related party transactions; that is, Chinese frms must maintain
certain levels of proftability to retain their listing status or raise funds. As with the
evidence on ownership control, Chinese evidence on RPTs is mixed and has
concentrated on SOEs and has largely ignored exploring RPTs conducted by privately
controlled frms (Deng et al., 2008; Cheung et al., 2009).
For a sample of 90 frms that were listed in China between 2007 and 2009 (comprising
45 SOEs and 45 privately controlled frms matched on industry and size), we fnd that
SOEs outperform privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs). However, their performance advantage is completely offset by
tunneling amounting to about 6 per cent of ROA, such that they underperformprivately
controlled frms by a net 1.5 per cent of ROA.
We contribute to the literature in the following ways. First, we contribute to corporate
governance research in the areas of ownership control and RPTs by disentangling the
differential effects of state- versus private-controlling ownership and RPTs on performance,
quantifyandallocate its relative contributiontoperformance (i.e. 4.5per cent of ROAinfavor
of SOEs andnegative 6 per cent for RPTs). Second, as China remains a transitional economy
with an institutional bias towards SOEs, extending our study to privately controlled frms
will provide a better understanding of an increasingly important segment of the Chinese
economy that has been relatively under-researched. Third, with China being the world’s
second largest economy[2], the economics of investing in Chinese frms with different
controlling interests and RPTs may be of interest not only to investors and other
stakeholders in Chinese frms listed domestically, but also to international investors in
overseas and cross-listed Chinese frms.
2. Ownership structure and frm performance
Earlier studies of ownership structure in China were of privatized SOEs. Sun and Tong
(2003) found that privatized SOEs improved performance on some measures, such as net
proft, sales and employee productivity, but not on other measures, such as return on
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sales and earnings on sales. In contrast, Wang et al. (2004) and Wei et al. (2005) found
that SOEs were less proftable after stockmarket privatization.
Wei et al. (2003) distinguished between those where at least 50 per cent voting control
were transferred to private investors, and those where the state retained control, and
found that the former outperformed the latter. Similarly, Chen et al. (2008) found that
that frms where control was transferred from SOE to private investors outperformed
those where control was transferred to another state entity.
Chenet al. (2006) and(2009) alsoconsider the performance differentials betweenthe types
of state ownership. Both papers classify the owners into four categories: state asset
management bureaus, other SOEs that report to state central government,
those that report to state local government and privately controlled (defned as a private
blockholder, whichmaybe anindividual or private institution). Chenet al. (2006) fndfor the
period 1991-2000 that private frms outperformed all types of state-controlled frms. Within
SOEs, frms controlled by the central government outperformed those controlled by local
government, which in turn outperformed frms controlled by asset management bureaus.
However, Chen et al. (2009) found that, for an overlapping but later period of 1999-2004, the
central government-controlled SOEs outperformed local government-controlled SOEs,
whichinturnoutperformedstate asset management bureaus, withprivate frms performing
at the same level as state asset management bureaus[3]. However, Ding et al. (2008) which
studied the same 1999-2004 period as Chen et al. (2009) found that family-owned frms
(defned as frms in which the largest shareholder is a family-owned frm or an individual)
achieved signifcantly better performance than SOEs.
Even as we note the mixed evidence regarding the relative performance of SOEs
versus private frms, given a signifcant institutional bias against privately owned frms
in the Chinese economy, a casual observer may wonder why SOEs do not performbetter
than private frms. The Chinese stockmarket was initially intended to be a place where
SOEs could raise funds for restructuring, and displays a bias in favor of SOEs (Ding
et al., 2007; Li, 2010). Wei et al., (2005) describe a situation where “politics trumps
economics”, that is Chinese SOEs are often selected for listing based not on economic
value and attractiveness to investors but on the partial rotation of state companies from
different regions and party power bases. A quota is determined by the State Planning
Commission (SPC), the People’s Bank of China and the China Securities Regulatory
Commission (CSRC)[4] for the number of frms to be listed each year, and then
sub-quotas are allocated to the provinces and regions. The quota system for allocating
listing approvals, and the review process, favor well-connected frms and frms
operating in sectors supported by the government, which are more likely to be SOEs
rather than private frms. Furthermore, Delios et al. (2008) mention that 80 industry
sectors are reserved for SOEs, while 40 are available for private frms; there is tight
control over market entry and a range of local government protectionist policies. Even
with respect to traditional funding sources like bank lending, much of the bank lending
(by state-owned banks) is policy driven towards SOEs, such that many private frms
have to resort to the grey market for lending[5].
One factor that may complicate inferences regarding the association between
ownership structure and frm performance is the split share structure reform that
occurred between 2005 and 2007[6]. In this share structure reform, the previously
non-tradable shares owned by the state and legal persons could be traded after a lockup
period. Gao et al. (2008) fnd that state ownership was reduced after the reform, and that
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there was a positive association between the reduction in state ownership and
performance as measured by ROE. Similarly, Yu (2013) also found that higher level of
state ownership is superior to dispersed ownership in its impact on performance, due to
state support and political connections, and that the split share structure reform
enhanced the positive relationship between state ownership and performance.
Accordingly, taking into account the direct and indirect support enjoyed by SOEs
from state ownership, and the performance improvements after the share structure
reform period, we hypothesize that SOEs outperform private frms by virtue of the
identity of their controlling shareholder:
H1. SOEs outperform privately controlled frms, due to the identity of their
controlling shareholder.
3. Related party transactions and frm performance
One factor that may potentially confound and partially explain the mixed results from
evidence of control on performance in China is the role of RPTs. Chen et al. (2009)
observed that, due to potentially confounding infuences from ownership structure and
RPTs, they could not determine a priori whether private frms outperform SOEs due to
differences in ownership or RPTs. Wang et al. (2004) also conjecture that a possible
explanation for the decline in SOEperformance is that the most proftable business units
are carved out for an IPO, leaving the unproftable units with the parent company, which
subsequently may use of its control rights to tunnel resources fromthe listed frmto the
parent[7].
Chinese studies of RPTs have concentrated on SOEs, given their dominance of the
economy. Cheung et al. (2009) found that SOEs controlled by local government were
more likely to engage in tunneling, while those controlled by central government were
more likely to engage in propping. In cross-sectional studies between types of
ownership, Jian and Wong (2003) compare the role of RPTs on earnings management
between group and non-group frms and conclude that group frms use RPTs to manage
earnings to meet ROE targets[8], more than non-group frms[9]. Deng et al. (2008) fnd
that incompletely restructured SOEs underperformed completely restructured frms, in
terms of ROA and return on sales (ROS) and that 40 per cent of the underperformance
was attributable to tunneling[10].
Jian and Wong (2010) show that Chinese frms propped up to manage earnings to
maintain their listing status[11] or to qualify for a rights issue, and non-state frms have
lower levels of RPTs compared to local and central government controlled frms.
However, this was not entirely altruistic as frms that are propped up would tunnel back
via related party lending after meeting the relevant targets. Similarly, Aharony et al.
(2010) show that frms going for an IPOs on the Shanghai stock exchange had their
earnings propped up by the parent companies pre-IPO to raise more capital in the IPO,
with assets tunneled back post-IPO. A more recent study, Ying and Wang (2013) found
a similar result. Peng et al. (2011) found that controlling shareholders would choose to
tunnel unless there is an adverse shock such that they would prop up the frmto stay in
business. They also fnd that RPTs could be used for both tunneling or propping up
though at different times and depending on the fnancial situation of the frm.
IncomparingRPTs before andafter the share structure reform, Hwanget al. (2008) found
the relationbetweenTobin’s QandoperatingRPTs pre-reformto be weaklysignifcant, but
during the reformperiod, they found no difference in the effect of RPTs on the Tobin’s Qof
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frms that had completed the reform relative to those that had not. They also found that
investors react less to RPTannouncements post-reformrelative to pre-reform.
Cheung et al. (2009) classifed RPTs into seven categories, which were labeled
tunneling or propping on an a priori basis. Tunneling was found to be more frequent
than propping, while propped up frms were more likely to have foreign shareholders
and to be cross-listed abroad, as well as having poorer prior operating performance.
Tunneling was concentrated among frms with state ownership and was not present
among frms with private ownership[12].
Jiang et al. (2010) study related party loans and fnd that tunneling was more severe
for non-state-owned frms than SOEs, and more prevalent for SOEs controlled by local
government than the central government[13], and that the related party loan balances
were associated with poorer future ROAs. Berkman et al. (2009) fnd that loan
guarantees are negatively related to frm value and frms with state non-corporate
owners were less likely to issue loan guarantees than those with other ownership types
(i.e. state corporate, private and foreign controlled). On the other hand, Gao and Kling
(2008) do not fnd evidence that SOEs were more likely to suffer from tunneling[14].
On balance, the evidence on RPTs in China is that tunneling is more prevalent than
propping, and is more likely to occur with SOEs. Where propping occurs, it is often
motivated by a desire to manage earnings to achieve thresholds for IPOs, with
subsequent tunneling back to the controlling shareholders. However, these studies do
not consider whether state versus private control has a bearing on the association
between RPTs and frm performance. Taking into account the prior evidence, we
hypothesize that listed SOEs are more likely to engage in tunneling activities via RPTs,
compared to private frms, which has an adverse effect on their relative performance. To
reduce the risk of being delisted, the controlling shareholder in a privately controlled
listed company can provide private resources to the company to enhance its
performance. Listed privately controlled frms are likely to be propped up in this way.
As such, we hypothesize that private frms are more likely to engage in propping than
SOEs, and this will also have a positive effect on their performance:
H2a. SOEs are more likely to engage in tunneling than privately controlled frms,
and this will impact negatively on performance.
H2b. Privately controlled frms are more likely to engage in propping than SOEs,
and this will impact positively on performance.
4. Research design
4.1 Sample selection
The effect on frm performance of ownership structure and RPTs is examined over the
period 2007-2009. From around 2005, China underwent a share reform program where
state and legal person shares became tradable after a lock-up period, which ended in
2007 for most frms. To reduce possible confounding effects from the share reform
(Yu, 2013), we start our sample period with 2007. Furthermore, with the introduction of
Chinese Accounting Standard No. 36 (2006) Accounting Standard for Business
Enterprises-Disclosure of Related Party Relationships and Transactions (Section 4.4),
detailed disclosure of RPTs was available mainly from 2007 onwards.
Financial, stock price and share ownership data are obtained from the Orbis
database. Related party transaction data were hand-collected from annual reports. Of
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the full sample of 1,404 Chinese frms as at June 2010, 704 had readily available
ownership information. From the Orbis database search queries, 30 frms were
identifed as privately controlled. We identifed another 15 frms as privately controlled
from a list of privately listed frms[15]. These 45 privately controlled frms were then
matched with 45 state-owned frms by industry and size, giving a total number of 90
frms and 270 frm-year observations. Any missing fnancial data were manually
collected from annual reports. Shareholder ownership status and data were
cross-checked against the annual reports and several external sources, such as Chinese
State-Owned Assets Supervision and Administration Commission of the State Council
website[16] and fnancial stockmarket websites[17].
Each privately controlled listed frm is matched to a SOE, primarily on industry and
secondarily on approximate size[18]. We generally observe that SOEs are signifcantly
larger than their private counterparts. This may be due to the historical institutional bias
against privately controlled frms in the Chinese equity market as well as the dominance of
SOEs in industries that are of strategic national importance, such as communication
services.
4.2 Regression model
To test the our hypotheses, we estimate the following model using ordinary least
squares (OLS):
ROA ? ?
0
? ?
1
SIZE ? ?
2
SALES ? ?
3
LEV ? ?
4
GROWTH ? ?
5
PRIV
? ?
6
RPT ? ?
7
PRIV * RPT ? D2008 ? D2009 ? ?
(1)
where:
ROA ?Return on assets, calculated as EBITDA divided by total assets;
SIZE ?Natural logarithm of total assets;
SALES ?Natural logarithm of annual sales;
LEV ?Total value of debt divided by total shareholders’ funds;
GROWTH ?Capital expenditure divided by average total assets;
RPT ?Total amount of RPTs divided by average total assets;
RPT_TUN ?Total amount of RPTs which are classifed as tunneling, divided by
average total assets;
RPT_PROP ? Total amount of RPTs that are classifed as propping, divided by
average total assets;
PRIV ?Dummy variable equal to 1 if it is a privately-controlled frm, and 0
otherwise; and
D2008, D2009 ?Year dummy variables to address year fxed effects.
To address fxed effects in the panel data, we include year dummy variables and adjust
for clustering by frm.
4.3 Measuring performance and control
Firm performance is measured by ROA (Deng et al., 2008; Jiang et al., 2010), which is
defned as earnings before interest, tax, depreciation and amortization divided by
average total assets. We choose ROA as the primary performance variable because one
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RMB of resources tunneled (propped up) would translate readily into one RMB of
EBITDA less (more) to shareholders of the listed frm.
To deal with potential confounding effects in the classifcation of the controlling
shareholder, we defne the controlling shareholder as the largest shareholder with at
least a 20 per cent shareholding in the listed frmas identifed in the listed frm’s annual
report. Following Liu and Sun (2005) and Chen et al. (2006, 2009), we trace the ultimate
controlling shareholder, classify them as private frms (PRIV) or SOEs. For SOEs, the
controlling shareholder is an entity identifed with the state; for private frms, it is an
individual or entity that can be ultimately traced to an individual or family. If a frm’s
ultimate shareholders cannot be established with certainty as being either individuals/
families or SOEs, the frm is excluded from the sample[19].
4.4 Classifying RPTs
Chinese Accounting Standard No. 36 (2006) Accounting Standard for Business
Enterprises-Disclosure of Related Party Relationships and Transactions[20] requires
listed companies to disclose RPTs in the notes to the fnancial statements by 13
categories. Related parties include the listed company’s parent company and any of its
affliates, and other parties such as the second largest corporate shareholder, the
company’s management, board members, controlling owners or members of the
immediate families of any of these groups. We collect data by each category, and
following Chen et al. (2009), we classify them as tunneling or propping on a priori
basis[21]. Tunneling transactions are:
• purchases;
• sales of goods;
• rendering and accepting;
• services between the listed frm and its related parties;
• assets acquisitions;
• sales between the listed frm and its related parties;
• provision of loans or loan guarantees by related parties;
• rental and lease expenses;
• emoluments; and
• other payments by the listed frm to related parties.
Propping transactions are:
• loans and loan guarantees granted by related parties to the listed frm, thereby
providing easier access to capital fnancing and possibly avoiding any
performance requirements that would be imposed on the listed frm were it to
borrow from other fnancial institution;
• lease; and
• other income paid to the listed frmby related parties which can beneft the listed
frm in the form of increased revenue.
All values of RPTs are defated by average total assets over a one-year period.
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4.5 Control variables
The control variables are drawn from studies of ownership and related party
transactions (Ding et al., 2008; Cheung et al., 2009; Jiang et al., 2010). Growth
opportunities (GROWTH) are measured as capital expenditure scaled by total assets,
and leverage (LEV) is measured as the book value of debt divided by the book value of
equity, and sales are measured as the natural logarithm of annual sales (SALES). As
previously mentioned, due to imperfect matching on size, we include size as a control
variable measured by the natural logarithm of total assets (SIZE).
5. Results
5.1 Descriptive statistics
Table I reports the descriptive statistics. In Panel A, the average ROAacross the full sample
is 6.66 per cent. We observe statistically insignifcant differences between the means of the
two groups, 6.91 per cent compared to 6.42 per cent for privately controlled and SOEs,
respectively. However, the difference inmedians is statisticallysignifcant for ROA(8.97 per
cent versus 6.04 per cent), with privately controlled frms outperforming SOEs. Panel B
confrms that despite matching privately controlled frms and SOEs by industry and size,
there are still signifcant differences in the two sub-samples. For example, in comparing
between privately controlled and SOEs, the means of SIZE and GROWTHand medians of
SIZE, GROWTHand LEVare statistically different. In Panel C, we see that the mean RPTs
are not statistically signifcantly different between SOEs and privately controlled frms.
Likewise, the mean of RPTs associated with tunneling (RPT_TUN) is higher in SOEs than
privately controlled frms (15.78 per cent and 14.85 per cent, respectively) but is not
statisticallysignifcant. However, the meanof RPTs associatedwithpropping(RPT_PROP)
is statistically signifcant and higher in privately controlled than SOEs (11.51 per cent and
7.47 per cent, respectively), but in this case, the difference in medians is not statistically
signifcant.
Table II reports correlation statistics. In general, the control variables, SIZE, SALES,
LEV and GROWTH are correlated with ROA. All of the related party transaction
variables (RPT, RPT_TUN and RPT_PROP) are correlated with LEV. This can be
explained by loans and loan guarantees accounting for a signifcant portion of RPTs.
Generally, RPTs are positively related to SALES, which is unsurprising, as RPTs often
take the form of sales of goods and services.
5.2 Private control and RPTs
Table III reports the results from regressions explaining the effects of RPTs on ROA,
whether from tunneling or propping. To assist the interpretation of the results, the
continuous independent variables have been standardized to have mean 0 and standard
deviation 1, and the dummy and interaction variables have been transformed by
subtracting their means. This results in the constant term in the regression being the
mean of the dependent variable. The coeffcient of a continuous independent variable
indicates the change in the dependent variable predicted for a one-standard deviation
change in the independent variable, other things being equal.
Across the results presented in Table III, SALES and GROWTH are signifcantly
associated with ROA in the predicted direction, but SIZE, LEV are not. In columns B, C
and D, PRIV is statistically signifcant at the 10 per cent level (one tailed) with the
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Table I.
Descriptive statistics
for regression
variables
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0
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n
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M
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5
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f
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b
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t
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n
2
0
0
7
a
n
d
2
0
0
9
;
C
o
l
u
m
n
s
(
A
)
c
o
n
t
a
i
n
t
h
e
m
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a
n
s
,
m
e
d
i
a
n
s
a
n
d
s
t
a
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d
a
r
d
d
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v
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a
t
i
o
n
s
f
o
r
t
h
e
f
u
l
l
s
a
m
p
l
e
;
c
o
l
u
m
n
s
(
B
)
a
n
d
(
C
)
r
e
p
o
r
t
s
m
e
a
n
s
,
m
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d
i
a
n
s
a
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d
s
t
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d
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d
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s
f
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l
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c
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l
l
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d
l
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s
t
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d
f
r
m
s
a
n
d
s
t
a
t
e
-
o
w
n
e
d
l
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s
t
e
d
f
r
m
s
,
r
e
s
p
e
c
t
i
v
e
l
y
;
C
o
l
u
m
n
s
(
D
)
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e
p
o
r
t
t
h
e
d
i
f
f
e
r
e
n
c
e
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m
e
a
n
s
a
n
d
m
e
d
i
a
n
s
f
r
o
m
c
o
l
u
m
n
s
(
B
)
a
n
d
(
C
)
;
R
O
A
?
n
e
t
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n
c
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m
e
d
i
v
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d
e
d
b
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a
v
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t
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t
a
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t
;
S
I
Z
E
?
n
a
t
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r
a
l
l
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o
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t
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t
a
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a
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t
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;
S
A
L
E
S
?
n
a
t
u
r
a
l
l
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g
o
f
a
n
n
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a
l
s
a
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s
;
L
E
V
E
R
A
G
E
?
t
o
t
a
l
l
i
a
b
i
l
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t
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s
d
i
v
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d
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d
b
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t
o
t
a
l
a
s
s
e
t
s
;
G
R
O
W
T
H
?
a
n
n
u
a
l
c
a
p
i
t
a
l
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x
p
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n
d
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d
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v
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d
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d
b
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a
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t
s
;
P
R
I
V
?
d
u
m
m
y
v
a
r
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a
b
l
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f
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c
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q
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1
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a
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d
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d
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d
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d
u
a
l
s
,
a
n
d
0
o
t
h
e
r
w
i
s
e
)
;
R
P
T
?
t
h
e
m
a
g
n
i
t
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d
e
(
i
n
a
b
s
o
l
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t
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t
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m
s
)
o
f
a
l
l
R
P
T
s
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n
t
h
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c
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r
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t
f
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c
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a
l
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e
a
r
,
d
i
v
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d
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d
b
y
a
v
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a
g
e
t
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t
a
l
a
s
s
e
t
s
;
R
P
T
_
T
U
N
?
t
h
e
a
m
o
u
n
t
o
f
R
P
T
s
t
h
a
t
a
r
e
c
l
a
s
s
i
f
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d
a
s
t
u
n
n
e
l
i
n
g
,
d
i
v
i
d
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d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
;
R
P
T
_
P
R
O
P
?
t
h
e
a
m
o
u
n
t
o
f
R
P
T
s
t
h
a
t
a
r
e
c
l
a
s
s
i
f
e
d
a
s
“
p
r
o
p
p
i
n
g
”
,
d
i
v
i
d
e
d
b
y
a
v
e
r
a
g
e
t
o
t
a
l
a
s
s
e
t
s
151
Related party
transactions
D
o
w
n
l
o
a
d
e
d
b
y
P
O
N
D
I
C
H
E
R
R
Y
U
N
I
V
E
R
S
I
T
Y
A
t
2
0
:
5
3
2
4
J
a
n
u
a
r
y
2
0
1
6
(
P
T
)
Table II.
Correlation statistics
P
e
a
r
s
o
n
p
r
o
d
u
c
t
-
m
o
m
e
n
t
c
o
r
r
e
l
a
t
i
o
n
c
o
e
f
f
c
i
e
n
t
s
(
N
?
2
7
0
)
R
O
A
S
I
Z
E
S
A
L
E
S
L
E
V
E
R
A
G
E
G
R
O
W
T
H
P
R
I
V
R
P
T
R
P
T
_
T
U
N
R
P
T
_
P
R
O
P
S
p
e
a
r
m
a
n
r
a
n
k
-
o
r
d
e
r
c
o
r
r
e
l
a
t
i
o
n
c
o
e
f
f
c
i
e
n
t
(
N
?
2
7
0
)
R
O
A
0
.
1
3
7
3
*
*
0
.
5
3
9
0
*
*
*
?
0
.
2
7
8
9
*
*
*
0
.
1
3
4
7
*
*
0
.
0
0
9
3
?
0
.
0
2
4
0
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0
.
0
1
8
0
?
0
.
0
7
8
7
p
(
0
.
0
2
)
(
?
0
.
0
0
)
(
?
0
.
0
0
)
(
0
.
0
3
)
(
0
.
8
8
)
(
0
.
6
9
)
(
0
.
7
7
)
(
0
.
2
0
)
S
I
Z
E
?
0
.
0
0
3
0
0
.
7
7
8
2
*
*
*
0
.
1
0
9
4
*
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0
.
1
0
0
1
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1
0
1
4
*
0
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0
4
1
2
0
.
0
5
6
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0
3
8
6
p
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0
.
9
6
)
(
?
0
.
0
0
)
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0
.
0
7
)
(
0
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1
0
)
(
0
.
1
0
)
(
0
.
5
0
)
(
0
.
3
6
)
(
0
.
5
3
)
S
A
L
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S
0
.
0
7
7
2
0
.
8
1
5
4
*
*
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0
.
0
5
3
2
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0
.
0
7
8
3
0
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0
0
2
4
0
.
1
2
4
2
*
*
0
.
1
1
8
1
*
0
.
0
6
9
8
p
(
0
.
2
1
)
(
?
0
.
0
0
)
(
0
.
3
8
)
(
0
.
2
0
)
(
0
.
9
7
)
(
0
.
0
4
)
(
0
.
0
5
)
(
0
.
2
5
)
L
E
V
E
R
A
G
E
?
0
.
4
4
6
4
*
*
*
0
.
3
3
3
4
*
*
*
0
.
3
6
0
7
*
*
*
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0
.
1
7
1
1
*
*
*
?
0
.
0
4
6
6
0
.
2
8
6
4
*
*
*
0
.
2
3
9
5
*
*
*
0
.
4
6
5
6
*
*
*
p
(
?
0
.
0
0
)
(
?
0
.
0
0
)
(
?
0
.
0
0
)
0
.
0
0
0
.
4
5
(
?
0
.
0
0
)
(
?
0
.
0
0
)
(
?
0
.
0
0
)
G
R
O
W
T
H
0
.
4
1
4
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ARJ
28,2
152
D
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d
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P
O
N
D
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(
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)
predicted sign. It is also economically signifcant, suggesting that privately controlled
frms underperform SOEs by around 4.5 per cent.
In column A, RPT is signifcant at the 10 per cent level and, in column C, it is not
signifcant; but when the interaction term is added (column D), RPT and PRIV ?
RPT are statistically signifcant and in the predicted direction, suggesting that the
model specifcation has been improved by the inclusion of the interaction term. In
column D, the coeffcient for RPT is statistically and economically signifcant,
indicating that a one standard deviation increase in RPTs results in a ROA decline
of 6.2 per cent ( p ? 0.01, one tailed) for SOEs; without tunneling SOE, ROAs could
be more than 12 per cent (constant: 6.7 per cent ?RPT: 6.2 per cent). The coeffcient
for PRIV ? RPT is 6.3 per cent ( p ? 0.01, one tailed) and statistically signifcant;
however, summing the coeffcient for PRIV ? RPT and RPT together yields a net
approximate value of 0, indicating that privately controlled frms do not beneft
from RPTs, at least compared to SOEs.
These results support H1, namely, that SOEs outperform privately controlled
frms because of their state support, and is consistent with Chen et al. (2009), who
show that the various forms of SOEs outperform private frms, at least before
accounting for RPTs. The results also support H2a that SOEs are more likely to
beneft from tunneling compared to privately controlled frms, consistent with
Table III.
ROA performance:
ownership and
related party
transactions
Variables Predicted sign (A) (B) (C) (D)
Constant 0.067*** 0.067*** 0.067*** 0.067***
(5.381) (5.427) (5.447) (5.554)
SIZE ? ?0.179 ?0.182 ?0.185 ?0.181
(?2.543) (?2.657) (?2.653) (?2.718)
SALES ? 0.292*** 0.292*** 0.296*** 0.298***
(2.679) (2.797) (2.791) (2.894)
LEVERAGE ? ?0.060 ?0.066 ?0.060 ?0.063
(?2.911) (?2.965) (?2.720) (?3.227)
GROWTH ? 0.030*** 0.032*** 0.032*** 0.030***
(2.647) (2.575) (2.607) (2.520)
PRIV ? ?0.046* –0.045* ?0.043*
(?1.510) (?1.481) (?1.477)
RPT ? ?0.018* ?0.017 ?0.062***
(?1.296) (?1.207) (?2.472)
PRIV ? RPT ? 0.063***
(2.507)
F 3.338 3.390 2.873 4.151
Adjusted R
2
56.6% 56.9% 57.1% 58.1%
N 270 270 270 270
Notes: The continuous independent variables have been standardized to have mean 0 and standard
deviation 1, such that their coeffcient indicates the marginal change in the dependent variable predicted
for a one-standard deviation increase in that independent variable; the other independent variables have
been transformed by subtracting the mean; to address fxed effects in the panel data, year dummy
variables are included (not shown for brevity) and coeffcient values and t-statistics are adjusted for
clustering by frm; ***indicates signifcance at p ? 0.01; **p ? 0.05 and *p ? 0.1 (one tailed where
there is a predicted sign, two tailed otherwise); the variables are defned in Table I
153
Related party
transactions
D
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Cheung et al. (2009). However, on a net basis, the SOE’s outperformance of 4.5 per
cent is offset by tunneling of around 6 per cent resulting a net ROA private frm
outperformance of about 1.5 per cent relative to SOEs, consistent with studies that
report that private frms outperform SOEs, including Chen et al. (2006) and Ding
et al. (2008). These fndings show that frm performance can be better explained by
disentangling the effects of ownership control and RPTs, as well as the interactions
between the two factors, and may help to explain the apparently mixed evidence on
the performance of SOEs relative to privately controlled frms.
5.3 RPTs: tunneling versus propping up
In Table IV, we report the effects of tunneling and propping RPTs on ROA. Across
columns Cto H, PRIVis statistically signifcant at the 10 per cent level with the predicted
sign, indicating that privately controlled frms underperformSOEs by about 4.5 per cent
in terms of ROA. RPT_TUN is not statistically signifcant in columns B, D and E, but
when interaction terms are added, the coeffcient for RPT_TUN is statistically
signifcant and about ?5.8 per cent ( p ? 0.01, one tailed, columns F and H) for SOEs,
that is for SOEs engaged in tunneling, a one standard deviation increase in tunneling
will lead to a decline in ROA of around 6 per cent. In column H, PRIV ?RPT_TUN is
0.067 (p ?0.01, one tailed). When added to the coeffcient of RPT_TUN(?0.058), it has
the value of 0.009 which is close to zero in magnitude, indicating that privately
controlled frms are not affected by tunneling, relative to SOEs.
Across all columns, RPT_PROP is not statistically signifcant, and in column H,
PRIV ?RPT_PROP is also not signifcant. Furthermore, the sum of the coeffcients
of RPT_PROP (?0.023) and PRIV ?RPT_PROP (0.007) in column H, that is ?0.016
indicates that privately controlled frms do not beneft from propping transactions
(inconsistent with H2b).
In sum, the evidence in Table IV is consistent with Table III in that frm
performance can partly be explained by disentangling the effects of ownership
structure and RPTs. In particular, we fnd that, before taking RPTs into account,
privately controlled frms underperformSOEs by about 4.5 per cent in terms of ROA
(H1). However, after tunneling 6 per cent worth of ROA, SOEs underperform
privately controlled frms by a net 1.5 per cent of ROA.
6. Conclusion
We investigate the relative performance of SOEs and privately controlled frms, and
whether RPTs add to or subtract fromtheir relative performance. For a sample of 90 listed
frms in China between 2007 and 2009 (comprising 45 SOEs and 45 privately controlled
frms and 45 matched on industry and size), we fnd that SOEs are more likely to tunnel, but
fnd no evidence that privately controlled frms beneft from either tunneling or propping.
SOEs outperformed privately controlled frms by almost 4.5 per cent in terms of ROA
(unadjusted for RPTs), but their performance advantage was offset by tunneling
transactions that amounted to about 6 per cent of ROA, such that they underperformed
privately controlled frms by a net 1.5 per cent of ROA.
We acknowledge two limitations. The frst is the relatively small sample size of 45
privately controlled frms and the same number of (matched) SOEs. The second
limitation is measuring the value of RPTs as the total value of the transactions (which is
observable) instead of the difference between the transaction prices and arms-length
ARJ
28,2
154
D
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(
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Table IV.
ROA performance:
RPTs classifed into
tunneling and
propping
transactions
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prices (which would be preferable but is not observable). Despite these limitations, we
were able to show that disentangling the relative impact of the type of ownership (
state versus private) and of RPTs provides a fuller explanation of the performance of
Chinese publicly listed frms, and a reconciliation of the existing contradictory evidence
of the relative performance of state versus private frms.
Notes
1. See Megginson and Netter (2001) for a survey of research on privatization and Li and
Putterman (2008) for a survey of research into China’s SOE reform experience.
2. BBC, China overtakes Japan as world’s second biggest economy. 14 February 2011. www.
bbc.co.uk/news/business-12427321
3. The difference in results at least between the relative performance of private versus the
different forms of SOEs is particularly noteworthy as these two studies share common
authors. However, this difference is not explained in the later paper.
4. CSRC Notice on the Public Offerings, December 1996; repealed in May 2006.
5. See for example, http://mpettis.com/2011/06/small-companies-feel-the-pain-in-china-2/,
and www.atimes.com/atimes/China_Business/MH26Cb02.html, for articles regarding the
challenges faced by private small and medium enterprises and the grey lending
market.
6. China Securities Regulatory Commission (CSRC) 2005 (Circular on issues relating to the pilot
reform of listed companies’ split share structure, No. 32; Guidelines on the reform of listed
companies share split structure, No. 80).
7. Deng et al. (2008) also describe the carving out and listing of proftable businesses of
SOEs.
8. For example, according to CSRC Notice No.12 introduced in 1999, companies are required to
achieve an average ROE of at least 10 per cent as well as a minimum of 6 per cent in each of
the three years prior to a rights issue.
9. Group frms are defned as conglomerates of various levels of government, and non-group
frms are state asset management bureaus, township and village enterprises and
privately owned frms. Adding to confounding effects, as in this case, studies sometimes
lump privately owned frms together with certain classes of SOEs, such as state asset
management bureaus.
10. Completely restructured frms are SOEs in the process of privatization with the state
retaining control but where the most productive part of the frm is split out for public
listing leaving the parent SOE under state ownership. Partially restructured SOEs are
those in which control is transferred fromthe state to the private sector. The paper did not
describe how control was defned.
11. According to delisting rules introduced by CSRC in 2001, frms listed on the Chinese stock
market are subject to certain unique earnings-based delisting rules. Firms that report two
consecutive annual losses are subject to special treatment by the stock exchange regulator. If
such a company is unable to report a proft within two to three years, it will be further
downgraded and may be suspended or delisted by the regulator.
12. Firms with state ownership were classifed as government controlled, while private
ownership frms were classifed as not being government controlled.
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13. SOEs were defned as a frm in which the largest shareholder is any level of government or
government-owned institution. Non-state owned frms are not clearly defned, and are
presumably frms that are not classifed as SOEs.
14. State ownership is defned as where the state ultimately controls the company, where control
is based on the pyramid ownership structure. Private frms are not defned.
15. Chinese Securities Index Co. Ltd.: www.csindex.com.cn/sseportal_en/csiportal/zs/jbxx/
report.do?code?000938&&subdir?1
16. Chinese State-Owned Assets Supervision and Administration Commission of the State
Council website: www.sasac.gov.cn/n2963340/2964236.html/
17. These were Sina Finance (China): http://fnance.sina.com.cn/ and Yahoo Finance (China):
http://fnance.yahoo.com.cn/
18. Industry matching was conducted using the National Primary Codes. If the identifed
privately controlled listed frm did not have a corresponding SOE listed frm under the same
National Primary Code, the US SIC code was used.
19. Some previous papers have not distinguished clearly private and state controlled frms. For
example, Jian and Wong (2003) distinguish between group and non-group frms but some
non-group companies may be ultimately controlled by the state. Ding et al. (2007) defne
privately controlled listed frms as those that are controlled by private individuals or private
companies, but private companies may be ultimately owned by state entities. Berkman et al.
(2009) include security companies as private frms, along with investment funds, private
companies, private individuals and work unions.
20. Chinese Accounting Standards Committee: http://extranet.casc.gov.cn/internet/internet/en/
kjfg2/nationalreg/qykjzz/entrereg_relation.html
21. Cheung et al. (2009) had only seven categories as their sample period of 2001-2002 was
prior to CAS36. We utilize the 13 categories which were required to be disclosed from
2006.
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Corresponding author
Leon Wong can be contacted at: [email protected]
For instructions on how to order reprints of this article, please visit our website:
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