What’s the value of politically connected directors?

This study examines the stock price response to Document 18, a regulation released in China in 2013 requiring independent directors with political connections to resign from the boards of directors for publicly listed firms. We document a significant positive price response in the window surrounding the directive’s promulgation date. This response is also of important economic magnitude. Our findings suggest that on average, the market views the costs of hiring politically connected directors as outweighing the associated benefits. Consistent with this view, we document that politically connected directors often shirk their board duties, as evidenced by their poor rates of attendance at board meetings. Further investigations show that the value decreasing effect of politically connected directors is apparent mainly for firms in regulated industries and varies with earnings management practices. However, the market views politically connected directors favorably if firms have significant business transactions with the government.     

Political connections and privatization: Evidence from China

We examine how the political connections of acquirers influence the process and outcomes of privatization in China. We find that politically connected acquirers receive preferential treatment and acquire higher quality firms during full privatization, and document evidence of post-privatization tunneling from target firms to acquirers. We show that the excessive tunneling by politically connected acquirers is associated with lower performance after privatization. Overall, our results suggest that individuals are likely to abuse their political connections to exploit the opportunities arising from privatization. We recommend that policymakers constrain the influence of political connections in the privatization process.     

Political connections,financial constraints,and corporate investment

This study investigates whether firms politically connected to the ruling party can mitigate financial constraints and increase their investments. Data on Taiwan-listed companies from 1991 to 2010 are used to answer the preceding issue. Results indicate that firms connected to the ruling party that transitioned into power can mitigate financial constraints, but results do not hold for firms connected to the opposition party that transitioned out of power. Firms connected to both parties have similar results with those connected to the ruling party, but the diminishing effect is weaker than those connected to the ruling party. Results further indicate that financially constrained firms can increase their investment when they have political connections to the ruling party. Finally, firms with strong connections can reduce financial constraints more effectively.     

Earnings credibility in politically connected family firms

We investigate whether politically connected family firms provide the market with more or less credible earnings compared with unconnected family firms. Our results evidence that politically connected family firms show higher earnings informativeness than unconnected family firms. Our findings are consistent with the market perceiving that, in the presence of political ties, family firms are more likely to reduce information asymmetries by signalling their superior earnings quality.     

Political embeddedness and firms’ choices of earnings management strategies in China

We examine whether and how political embeddedness influences financial reporting quality in China by investigating how government ownership and political connections affect Chinese listed firms’ choices of earnings management strategies. The results show that state-owned enterprises (SOEs), and in particular, central SOEs, are more likely to substitute accrual-based earnings management strategies with costlier but less detectable real earnings management strategies than non-SOEs. The results also indicate that politically connected enterprises (PCEs) are more likely to employ less detectable real earnings management strategies than non-PCEs, so much so that PCEs’ total earnings management level is higher than that of non-PCEs.     

Auditors' Response to Political Connections and Cronyism in Malaysia

This paper extends the literature on the role of political economy in financial reporting and auditing by testing two hypotheses. The first hypothesis predicts that there will be a greater increase in audit effort and audit fees for Malaysian firms with political connections, as a result of the Asian financial crisis, than for non‐politically connected firms because these firms have a higher risk of financial misstatements. The second hypothesis predicts that the audit fees of politically connected firms will decline when capital controls are introduced by the government as a ploy to financially assist politically connected firms to rebound from the crisis, and thus reduces the risk of financial misstatements. The results show that there is a greater increase in audit fees for firms with political connections than for non‐politically connected firms as a result of the Asian financial crisis. However, there is a decline in audit fees for politically connected firms after the capital controls are implemented.     

The quality of accounting information in politically connected firms

We document that the quality of earnings reported by politically connected firms is significantly poorer than that of similar non-connected companies. Our results are not due to firms with ex-ante poor earnings quality establishing connections more often. Instead, our results suggest that, because of a lesser need to respond to market pressures to increase the quality of information, connected companies can afford disclosing lower quality accounting information. In particular, lower quality reported earnings is associated with a higher cost of debt only for the non-politically connected firms in the sample.     

Stock Recommendations for Politically Connected Firms

Social network connections of corporations can significantly affect operating performance and firm valuation. Political connections are one form of social networking which often manifests into improved firm profitability as a result of political favors granted by politicians. However, analysts often have greater difficulty forecasting the earnings of politically connected firms than those of non‐connected firms. This is because politicians often grant political favors to firms in an unpredictable manner making it difficult for market participants to time precisely when political benefits will translate into higher firm profitability. I examine how political connections affect analysts’ stock recommendations using a unique dataset of political contributions in the US over the period 1993–2012. I show that analysts’ recommendations are less profitable for firms with high connectedness than for firms with low (or no) connectedness. I also find that analysts are less effective in translating earnings forecasts into profitable recommendations for highly connected firms. Overall, the findings suggest that analysts do not impound all of the information concerning corporate political connections efficiently into their primary research outputs.     

Depoliticization and corporate cash holdings: Evidence from the mandated resignation of directors in China

The 2013 depoliticization regulation (Rule 18) in China mandates government officials to resign from board positions in public firms, terminating firms' political connections established through these directors. Exploiting this regulation as a quasi-experiment, we document that politically connected firms increase their cash holdings 12.7% more than non-connected firms because of these resignations. This pattern is more pronounced among firms that rely more heavily on the government for external resources. Among state-owned firms, the pattern is more evident in firms that are more deeply privatized. In addition, firms that lose political ties experience a significant decline in obtaining bank loans and government subsidies, and they are also slower to adjust their cash holdings toward the optimal level. These findings underscore the role of corporate political linkages in facilitating firms' access to resources that “soften” firms' budget constraints.     

Cash holdings of politically connected firms

Politically connected firms benefit from soft-budget constraints and are unlikely to suffer from liquidity constraints. This argument suggests that politically connected firms should hold less cash than non-connected peers. Another view posits that these firms exhibit acute corporate governance problems. In this setting, politically connected firms are more likely to hold more cash than non-connected firms. Using a sample of 50,119 firm-year observations from 31 countries, we find that politically connected firms hold more cash than their non-connected peers. We put forth two explanations for this result. Firstly, politicians use politically connected firms as “cash cows” to advance their political agendas. Secondly, political connections are conducive to agency problems. In additional analyses, we find that the positive relationship between political connections and cash holdings is stronger when corporate governance is weak.     

Protection or expropriation: Politically connected independent directors in China

This paper empirically investigates politically connected independent directors among Chinese listed firms using 7487 firm-year observations from the Shanghai stock exchange during the period of 2003–2012. We distinguish between privately controlled firms and state-controlled firms. We find that the value effect and incentives of appointing independent directors with political ties are shaped by a firm’s ownership structure. More exactly, Chinese listed privately controlled firms with a large fraction of politically connected independent directors tend to outperform their non-connected counterparts, due to the ease of access to external debt financing and more subsidies from the government. However, the appointment of politically connected independent directors also enlarges the magnitude of related-party transactions with the controlling party in listed privately controlled firms. In contrast, having politicians as independent directors does not help to add value to listed state-controlled firms, especially firms controlled by the local government, due to the expropriation of minority investors via more related-party transactions and more severe over-investment problems.     

Earnings Management through Transaction Structuring: Contingent Convertible Debt and Diluted Earnings per Share

In this article we examine whether firms structure their convertible bond transactions to manage diluted earnings per share (EPS). We find that the likelihood of firms issuing contingent convertible bonds (COCOs), which are often excluded from diluted EPS calculations under Statement of Financial Accounting Standard (SFAS) 128, is significantly associated with the reduction that would occur in diluted EPS if the bonds were traditionally structured. We also document that firms' use of EPS‐based compensation contracts significantly affects the likelihood of COCO issuance and find weak evidence that reputation costs, measured using earnings restatement data, play a role in the structuring decision. These results are robust to controlling for alternative motivations for issuing COCOs, including tax and dilution arguments. In addition, an examination of announcement returns reveals that investors view the net benefits and costs of COCOs as offsetting one another. Our results contribute to the literature on earnings management, diluted EPS, financial reporting costs, and financial innovation.     

Political connections and the cost of equity capital

Motivated by recent research on the costs and benefits of political connection, we examine the cost of equity capital of politically connected firms. Using propensity score matching models, we find that politically connected firms enjoy a lower cost of equity capital than their non-connected peers. We find further that political connections are more valuable for firms with stronger ties to political power. In additional analyses, we find that the effect of political connection on firms' equity financing costs is influenced by the prevailing country-level institutional and political environment, and by firm characteristics. Taken together, our findings provide strong evidence that investors require a lower cost of capital for politically connected firms, which suggests that politically connected firms are generally considered less risky than non-connected firms.     

Controlling shareholder,expropriations and firm's leverage decision: Evidence from Chinese Non-tradable share reform

This paper examines the effect of excess control rights on the leverage decisions made by Chinese non-SOEs before and after the Non-tradable share reform (NTS reform). We find that firms with excess control rights have more excess leverage and their controlling shareholders use the resources for tunneling rather than investing in positive NPV projects. We also find that excess leverage in firms with excess control rights decreases and the market reaction to announcements of related party transactions are more positive after NTS reform. This confirms that tunneling by the controlling shareholders actually reduced. We argue that in emerging markets where legal protection for creditors and shareholders is weak, controlling shareholders borrow excess debt to tunnel through inter-corporate loans and related party transactions. Furthermore the privatization of these economies can reduce the controlling shareholders' tunneling activities and associated excess leverage which destroys firm value.     

Bank Loan Supply in the Financial Crisis: Evidence from the Role of Political Connection

We investigate the changes in bank loan supply during the 2007–2008 financial crisis, with particular focus on the influence of political connections. We demonstrate that although political connections can help firms obtain lower loan rates during the precrisis period, such benefits disappear in the postcrisis period. Moreover, the loan acceptance ratio for politically connected firms is enhanced in the postcrisis period, especially for the politically connected firms with high risks. Evidence reveals that the focus of the benefits for politically connected firms is more likely to shift from the loan rate to the loan acceptance ratio during the postcrisis period.     

Rent-seeking incentives, corporate political connections, and the control structure of private firms: Chinese evidence

We examine how the rent-seeking incentives of local government motivate private firms¹ listed in China to establish political connections, and whether such connections lead to more concentrated corporate control structures. Our results show that such firms are more likely to establish political connections in regions in which the local economy is less market-oriented or in which the government has more discretion in allocating economic resources. This is consistent with the notion that the presence of incentives for government officials to engage in rent seeking motivates private firms to look for alternative safeguards through political connections. We also find that the controlling owners of politically connected firms tend to concentrate their shareholdings and dominate the board of directors by occupying the position of either chairman or CEO, which supports the conjecture that a concentrated control structure facilitates rent seeking through political connections and allows the controlling owner to retain all of the benefits arising from connections with politicians.     

Tunneling and propping up: An analysis of related party transactions by Chinese listed companies

We examine a sample of related party transactions between Chinese publicly listed firms and their controlling shareholders during 2001–2002. Minority shareholders in these firms seem to be subject to expropriation through tunneling but also gain from propping up. On balance, there seems to be more tunneling than propping up. Both types of firms have larger state ownership compared to the rest of the Chinese market but firms that are propped up are larger and have larger state ownership than firms subject to tunneling. Propped up firms are more likely to have foreign shareholders and to be cross-listed abroad compared to firms that are subject to tunneling. Propped up firms also tend to have worse operating performance in the fiscal year preceding the announcement of the related party transaction. Finally, we find that related party transactions representing tunneling are accompanied by significantly less information disclosure compared to related party transactions representing propping.     

Related party transactions and firm value: The moderating role of corporate social responsibility reporting

This study investigates the influence of related party transactions (RPTs) on firm value. Further, it examines whether a firm’s corporate social responsibility (CSR) reporting reflects its corporate values and ethical concerns, therefore mitigating the value-destroying effects of RPTs. Based on 274 observations from publicly listed firms in Indonesia, our results show that RPTs (i.e., related party sales) are negatively related to firm value. Further, we find that in the presence of better CSR reporting, the relationship between RPTs and firm value becomes more positive. This is in line with the view that CSR reporting, which reflects firms’ ethical concerns, may serve as a mechanism against managers’ opportunism. However, we find that related party payables have a positive relationship with firm value. Further investigation reveals that, although certain RPTs show a short-term, value-enhancing effect, these transactions seem to result in subsequent tunneling activities, suggesting managerial opportunism in the long term.     

Political Connections and the Efficiency of Capital Allocation Through Bond Financing in Chinese Listed Companies

Using a database of firms issuing short-term financing bonds and mid-term notes in China from 2007 to 2011, we uncover whether and how political connections influence the companies' capital allocation efficiency. The authors show that politically connected firms have significantly lower capital allocation efficiency, especially in the case of overinvestment subsamples. In addition, different types of political connections have different effects on firms' inefficient investments. Compared with firms connected to members of the people's congresses and the Chinese People's Political Consultative Conference (MPCP firms), firms connected to government officials (GOF) overinvest more and underinvest less. One year after bond financing, GOF politically connected firms decreased overinvestment, while underinvestment undergoes an upward trend in the MPCP firms.     

Transactional and relational approaches to political connections and the cost of debt

This paper examines the economic effects of a firm's approach to developing and maintaining political connections. Specifically, we investigate whether lenders favor transactional connection as opposed to relational connection. By tracing firms in a politically volatile emerging democracy in Indonesia, we find that firms following a transactional political connection strategy experience a relatively lower cost of debt than those with a relational strategy. The effect is more pronounced for firms facing high financial distress. The finding is robust to cost of bank loans and a variety of regression methods. Overall, the evidence suggests that in times of frequently changing political regimes, firms benefit from a transactional relationship with politicians as it enables to update connection with the government in power. Relational connection is valuable for a firm only when the political regime connected with it gains power.