Insider Ownership,Subsidiary Cash Holdings,and Economic Consequences: Evidence from Listed Chinese Companies

ABSTRACT

Using a large sample of listed Chinese companies, we investigate how the equity ownership of business group insiders affects subsidiary cash holdings. We find that ownership by the largest shareholders and senior managers in the listed parent firm is negatively related to its subsidiaries’ cash holdings, whereas there is a positive relationship with minority equity in subsidiaries. We also find that the market places a more significant value discount on listed firms whose cash holdings are more located in the affiliated subsidiaries. Our evidence demonstrates how cash policy inside business groups is influenced by insider ownership, and it reveals to what extent cash allocated in subsidiaries may suffer from losses in efficiency.     

Morgan Stanley Roundtable on Capital Structure and Payout Policy

A group of finance academics and practitioners discusses a number of topical issues in corporate financial management: Is there such a thing as an optimal, or value‐maximizing, capital structure for a given company? What proportion of a firm's current earnings should be distributed to the firm's shareholders? And under what circumstances should such distributions take the form of stock repurchases rather than dividends? The consensus that emerged was that a company's financing and payout policies should be designed to support its business strategy. For growth companies, the emphasis is on preserving financial fl exibility to carry out the business plan, which means heavy reliance on equity financing and limited payouts. But for companies in mature industries with few major investment opportunities, more aggressive use of debt and higher payouts can add value by reducing taxes and controlling the corporate “free cash flow problem.” Both leveraged financing and cash distributions through dividends and stock buybacks represent a commitment by management to shareholders that the firm's excess cash will not be wasted on projects that produce growth at the expense of profitability. As for the choice between dividends and stock repurchases, dividends appear to provide a stronger commitment to pay out excess cash than open market repurchase programs. Stock buybacks, at least of the open market variety, preserve a higher degree of managerial fl exibility for companies that want to be able to capitalize on unpredictable investment opportunities. But, as with the debt‐equity decision, there is an optimal level of financial fl exibility; too little can mean lost investment opportunities but too much can lead to overinvestment.     

10 ways to create shareholder value

Executives have developed tunnel vision in their pursuit of shareholder value, focusing on short-term performance at the expense of investing in long-term growth. It's time to broaden that perspective and begin shaping business strategies in light of the competitive landscape, not the shareholder list. In this article, Alfred Rappaport offers ten basic principles to help executives create lasting shareholder value. For starters, companies should not manage earnings or provide earnings guidance; those that fail to embrace this first principle of shareholder value will almost certainly be unable to follow the rest. Additionally, leaders should make strategic decisions and acquisitions and carry assets that maximize expected value, even if near-term earnings are negatively affected as a result. During times when there are no credible value-creating opportunities to invest in the business, companies should avoid using excess cash to make investments that look good on the surface but might end up destroying value, such as ill-advised, overpriced acquisitions. It would be better to return the cash to shareholders in the form of dividends and buybacks. Rappaport also offers guidelines for establishing effective pay incentives at every level of management; emphasizes that senior executives need to lay their wealth on the line just as shareholders do; and urges companies to embrace full disclosure, an antidote to short-term earnings obsession that serves to lessen investor uncertainty, which could reduce the cost of capital and increase the share price. The author notes that a few types of companies--high-tech start-ups, for example, and severely capital-constrained organizations--cannot afford to ignore market pressures for short-term performance. Most companies with a sound, well-executed business model, however, could better realize their potential for creating shareholder value by adopting the ten principles.     

MORGAN STANLEY ROUNDTABLE ON Capital Structure and Payout Policy

A group of distinguished finance academics and practitioners discuss a number of topical issues in corporate financial management: Is there such a thing as an optimal, or value‐maximizing, capital structure for a given company? What proportion of a firm's current earnings should be distributed to the firm's shareholders? And under what circumstances should such distributions take the form of stock repurchases rather than dividends? The consensus that emerges is that a company's financing and payout policies should be designed to support its business strategy. For growth companies, the emphasis is on preserving financial flexibility to carry out the business plan, which means heavy reliance on equity financing and limited payouts. But for companies in mature industries with few major investment opportunities, more aggressive use of debt and higher payouts can add value both by reducing taxes and controlling the corporate free cash flow problem. In such cases, both leveraged financing and cash distributions through dividends and stock buybacks signal management's commitment to its shareholders that the firm's excess cash will not be wasted on projects that produce low‐return growth that comes at the expense of profitability. As for the choice between dividends and stock repurchases, dividends provide a stronger commitment to pay out excess cash than open market repurchase programs. Stock buybacks, at least of the open market variety, preserve more flexibility for companies that want to be able to capitalize on unpredictable investment opportunities. But, as with the debt‐equity decision, there is an optimal level of financial flexibility: too little can mean lost investment opportunities, but too much can lead to overinvestment.     

The Composition and Effectiveness of Audit Committees in the Presence of Large Controlling Shareholders

The authors' study of audit committees in 450 large East Asian companies (150 each in Hong Kong, Singapore, and Malaysia) finds a strong positive correlation between the “cash flow” ownership (as opposed to just the voting rights) of large shareholders and the percentage of independent audit committee members. The study also reports a strong positive correlation between the “cash flow” ownership of large shareholders and the percentage of audit committee members with financial expertise and experience. This finding is consistent with the hypothesis that larger cash flow ownership provides large shareholders with strong incentives for more effective governance. Conversely, the lower percentages of independent or professional audit directors at companies with large disparities between cash ownership and voting rights is consistent with the authors' hypothesis that entrenched large shareholders prefer inferior governance structures that pose fewer obstacles to their tendency to exploit the wealth of minority shareholders. Furthermore, the authors find higher valuations (market‐to‐book ratios) for companies with audit committees that consist entirely of independent directors and have larger percentage of members with financial expertise. And when viewed as a whole, the authors' findings provide support for the argument that ownership structure affects the composition of audit committees, and that independent and professional audit committees can help increase firm value.     

Internal Funds Allocation and the Ownership Structure: Evidence from Korean Business Groups

We examine the relationship between the controlling shareholder’s cash flow rights and the funds transfer in the internal capital market within Korean business groups (chaebols) during the period from 1998 to 2001. We find that the funds allocation in the firms where controlling shareholders have high cash flow rights is better aligned with the investment opportunities and therefore, more efficient than in the firms where they have low cash flow rights. This effect is stronger when they have controlling powers large enough to expropriate minority shareholders. However, during the financial crisis period, funds simply move toward the firms where controlling shareholders have high cash flow rights. The results evidence the tunneling behavior in the internal capital market within a chaebol that the ownership structure distorts the allocation of internal funds in such a way as to benefit the controlling shareholders.JEL Classification: G31, G30     

CORPORATE CASH HOLDINGS

There have been several cases in recent years—most notably, Chrysler—in which shareholders have objected to the level of companies' holdings of cash and other liquid assets. This paper describes the authors' study of the determinants of liquid asset holdings by publicly traded U.S. firms and how these holdings change over time. For those companies that appear to hold excess cash, the study also attempts to investigate whether such companies have a tendency to reduce value by "overinvesting"—a tendency described in the academic finance literature as the "free cash flow problem."
According to the study, the most important determinants of corporate cash holdings are size, risk, and the extent of the firm's investment opportunities, with smaller, riskier, and high-growth firms holding larger amounts of cash as a percentage of total (noncash) assets. These results are consistent with corporate decisions to hold liquid assets in order to preserve the firm's ability to make strategic investments when operating cash flow turns down and outside funds are expensive.
The authors also report that most companies with large amounts of excess cash tend to acquire it mainly by accumulating internally generated cash flows, and not by issuing securities. Perhaps surprising, the study also finds that spending on new projects and acquisitions is only slightly higher for firms with excess cash—and that such firms also tend to have higher payouts to shareholders in the form of dividends or stock repurchases. Thus, there is little evidence in this study of a free cash flow problem, as well as some indication that managers are aware of and attempt to address the problem.     

Corporate Governance in India

The Indian corporate governance system has both supported and held back India's ascent to the top ranks of the world's economies. While on paper the country's legal system provides some of the best investor protection in the world, enforcement is a major problem, with overburdened courts and significant corruption. Ownership remains concentrated and family business groups continue to be the dominant business model, with significant pyramiding and evidence of tunneling activity that transfers cash flow and value from minority to controlling shareholders. But for all its shortcomings, Indian corporate governance has taken major steps toward becoming a system capable of inspiring confidence among institutional and, increasingly, foreign investors. The Securities and Exchanges Board of India (SEBI), which was established as part of the comprehensive economic reforms launched in 1991, has made considerable progress in becoming a rigorous regulatory regime that helps ensure transparency and fair practice. And the National Stock Exchange of India, also established as part of the reforms, now functions with enough efficiency and transparency to be generating the third‐largest number of trades in the world, just behind the NASDAQ and NYSE. Among more recent changes, the enactment of Sarbanes—Oxley type measures in 2004—which includes protections for minority shareholders in family‐ or “promoter”‐led businesses—has contributed to recent increases in institutional and foreign stock ownership. And while family‐ and government‐controlled business groups continue to be the rule, India has also seen the rise of successful companies like Infosys that are free of the influence of a dominant family or group and have made the individual shareholder their central governance focus.     

Are related-party transactions beneficial or detrimental in emerging markets? New evidence of financial services agreements from China

This paper examines a new and underexplored form of related-party transactions in which Chinese listed companies sign financial services agreements with affiliated finance companies within the same business group. With FSAs, listed companies can readily finance through internal capital markets. However, some concerns controlling shareholders can use FSAs to embezzle funds of listed companies legitimately, thereby expropriating the wealth of minority shareholders. Using a staggered difference-in-differences model with fixed effects, we empirically examine the economic consequences of FSAs. We document that FSAs are detrimental to listed companies' market valuation and operating performance. This phenomenon mainly concentrates on companies without financial constraints and those with lower bankruptcy risks. Further analysis shows that sound corporate governance could inhibit the signing of FSAs ex-ante. This paper contributes to the literature on the economic consequences of related-party transactions in emerging markets. It also provides empirical support that the internal capital market of business groups in China is inefficient and offers controlling shareholders opportunities for tunneling.     

关于股改前后现金股利影响因素的实证研究

对股改前后影响现金股利水平的公司治理变量研究表明,虽然股改矫正了现金股利与增长机会之间的关系,使股改后当存在增长机会时,公司会减少现金股利的发放,但是我国上市公司的现金股利尚未呈现出全流通资本市场上作为降低控股股东与中小股东代理成本工具的现金股利政策应有的特征,突出表现在股改前后影响上市公司现金股利支付水平的股权结构变量并未发生变化,股改前后都存在股权集中度、第一大股东持股比例及第二到第十大股东持股比例与每股现金股利呈显著正相关、而流通(非限售)股比例与每股现金股利呈显著负相关的关系。     

Tax Motivated Income Shifting and Korean Business Groups (Chaebol)

Abstract:  This paper examines tax-induced income shifting behavior among affiliated firms in Korean business groups (chaebols). Korean corporate income tax law does not require consolidated tax returns, and business groups with a large number of affiliated member firms have incentives to shift income across member firms to reduce the overall taxes of the group. For a large number of Korean companies that are subject to external audits, we perform univariate and multivariate regression analyses on the income shifting behavior of chaebol firms compared with non-chaebol control firms. Our evidence suggests that tax-motivated income shifting activities exist among chaebol firms, and that the extent of income shifting is found to depend on its effect on non-tax cost factors such as the earnings, leverage, and cash flow rights of the controlling shareholders. We also find that income shifting is more pronounced in chaebol firms where the control-cash flow divergence is relatively large, suggesting that income shifting is affected by the controlling shareholders' opportunism. Our study provides some insights on the intra-group income shifting activities where research is limited.     

Agency Problems at Dual-Class Companies

Using a sample of U.S. dual-class companies, we examine how divergence between insider voting and cash flow rights affects managerial extraction of private benefits of control. We find that as this divergence widens, corporate cash holdings are worth less to outside shareholders, CEOs receive higher compensation, managers make shareholder value-destroying acquisitions more often, and capital expenditures contribute less to shareholder value. These findings support the agency hypothesis that managers with greater excess control rights over cash flow rights are more prone to pursue private benefits at shareholders' expense, and help explain why firm value is decreasing in insider excess control rights.     

The effect of financial constraints,investment policy,product market competition and corporate governance on the value of cash holdings

This study empirically investigates the value shareholders place on excess cash holdings and how shareholders’ valuation of cash holdings is associated with financial constraints, firm growth, cash‐flow uncertainty and product market competition for Australian firms from 1990 to 2007. Our results indicate that the marginal value of cash holdings to shareholders declines with larger cash holdings and higher leverage. However, firms that are more financially constrained, that have higher growth rates and that face greater uncertainty exhibit a higher marginal value of cash holdings. These findings are consistent with the explanation that excess cash holdings are not necessarily detrimental to firm value. Firms with costly external financing and that also save more cash for current operating and future investing needs find that the market values these cash hoarding policies favourably. Finally, there is limited evidence of an association between various corporate governance measures and the value of cash holdings for a shorter sample period.     

关联股权交易不同支付方式下的投资者收益研究——来自中国A股市场的经验证据

本文以我国A股市场2006年5月8日至2007年12月31日期间的关联股权交易公司为研究样本,按照支付方式将上市公司划分为非公开发行新股支付公司与现金支付公司,研究了是否存在大股东为了谋求自身更大利益而影响上市公司支付方式选择,从而侵蚀市场上其他投资者利益的现象。研究发现,在关联股权交易董事会决议公告之前的[-20,-2]共19天期间内,非公开发行新股支付方式下的上市公司投资者累积超额收益要远远低于现金支付方式下的相应收益,说明通过影响股价来实现自身利益的最大化成为大股东的现实选择。     

How much cash does your company need?

In late 2001, the directors of Pfizer asked that very question. And with good reason. After its 2000 merger with rival Warner-Lambert, the New York-based pharmaceutical giant found itself sitting on a net cash position of $8 billion, which seemed extraordinarily conservative for a company whose products generated $30 billion in revenues. Most large companies with revenues that healthy would increase leverage, thereby unlocking tremendous value for shareholders. But knowledge-intensive companies like Pfizer, this author argues, are in a class apart. Because their largely intangible assets (like R&D) are highly volatile and cannot easily be valued, they are more vulnerable to financial distress than are firms with a preponderance of tangible assets. To insure against that risk, they need to maintain large positive cash balances. These companies' decisions to run large cash balances is one of the key reasons their shares sustain consistent premiums. Only by investing in their intangible assets can knowledge-based companies hope to preserve the value of those assets. A company that finds itself unable to do so because unfavorable market conditions reduce its operating cash flows will see its share price suffer almost as much as if it were to default on its debts. By the same token, with the right balance sheet, knowledge companies can profitably insure against the risk of failing to sustain value-added investments in difficult times. An optimal capital structure that calls for significant cash balances is certainly at odds with the results of a traditional capital structure analysis, the author demonstrates, but it explains the financial policies of many well-run companies, from Pfizer to Intel to ChevronTexaco.     

现金股利政策影响因素实证分析——以中国酒业上市公司为例

股利政策作为现代公司理财的核心内容之一,不仅关系着公司股东的利益还关系着公司的稳定发展,因此合理的股利分配政策无论是对于股东的利益还是对于公司的稳定发展都有着重要的意义。而影响股利政策的因素也有很多,不同的因素对其影响也不同。文章选取了中国酒业上市公司为研究对象,根据2009、2010两年派发现金股利的情况和上市公司年报的财务数据资料,通过实证研究找出影响中国酒业上市公司现金股利政策的主要因素,并通过具体地分析,进一步为该行业股利政策的制定和规范提出具有合理性和可取性的建议,以提高企业的价值,实现股东财富最大化的目标。     

Scrip Dividends: the Management's View

This paper examines the motivation underlying the payment of scrip dividends through a questionnaire survey conducted among a sample of companies listed on the London Stock Exchange that offered their shareholders this option, and a control sample of firms that paid only cash dividends. The results show that the overwhelming majority of the respondents from both groups feel that the scrip dividend option is driven by the current and/or potential high irrecoverable advanced corporation tax but the proposition that this option is a substitute for external finance or a cut in cash dividends is strongly rejected. Managers feel that, although the scrip dividend option allows small shareholders to increase their holdings without incurring transaction costs, it is not intended to convey information that will lead to a rise in the share price. Furthermore, the results reveal that the decision between offering this option or paying only cash dividends is substantially affected by shareholders' pressure, suggesting that firms in the UK are subject to direct shareholder monitoring.     

Executive compensation and goodwill recognition under IFRS: Evidence from European mergers

Based on principal agent theory we posit that managers account for a business combination opportunistically by recognizing goodwill in excess of its economic determinants. We examine the relationship between CEOs’ short-term cash bonuses and the amount of goodwill recognized in IFRS acquisitions. We find that with increasing cash bonus intensity managers recognize more goodwill. More detailed analysis indicates that this relationship is not a linear one. Instead, there seems to be a corridor in which CEOs are susceptible to the incentive given by bonus payments. In particular, the relationship seems to be fulfilled only for CEOs whose cash bonus is between 150% and 200% of their base salary prior to the acquisition. Our findings have an implication for companies that bonus caps should be introduced to limit CEOs’ bonuses to a given percentage of their base salary. By doing so, they may re-align shareholders’ and managers’ interests and avoid an increased impairment risk in the future.     

Product Market Competition and the Ownership Choice of Business Groups: Evidence from Korean Chaebols

This study investigates the effect of product market competition on the ownership choice of controlling shareholders in the Korean business groups known as chaebols. We find that member firms in more competitive markets have less disparity between the control and cash flow rights of controlling shareholders. The adjustment in ownership due to product market competition is implemented mainly through an adjustment in the ownership of affiliates rather than in the direct ownership of controlling shareholders. The disciplinary effect of product market competition is observed only in member firms with lower market power in their own industries. The result implies that product market competition works as a disciplinary mechanism that reduces the incentive of chaebols’ controlling shareholders to pursue the private benefits of control.     

The staying power of the public corporation

Has the publicly held corporation out-lived its usefulness? In HBR's September-October 1989 issue, Michael C. Jensen of the Harvard Business School said "yes." The institutional shortcomings of the public corporation are so grave, he argued, that it must be considered fatally flawed. He described the emergence of a new form of enterprise-the LBO Association-that releases much of the untapped value and corrects many of the inefficiencies of large public companies. Alfred Rappaport, a professor and consultant who advises large public companies, joins the debate with a rebuttal to Jensen. Rappaport shares many of Jensen's criticisms of current strategic and financial practices among public companies. But he does not believe leveraged buyouts and other going-private transactions can replace the public corporation. This is so, he asserts, for two reasons: LBOs have a limited demand and a limited life. Rappaport argues that the publicly held corporation is worth saving. It is inherently flexible and self-renewing-properties that are fundamental to stability and progress in a market-driven economy and that transitory organizations like LBOs cannot replicate. Rappaport advances a four-point program to overhaul strategic planning, compensation, and governance to maximize shareholder value in public companies: 1. Find the highest valued use for all assets. 2. Limit investment to opportunities with credible potential to create value. 3. Return cash to shareholders when such value-creating investments are not available. 4. Establish incentives for managers and employees to focus on the critical business drivers that create value.