Split Share Structure Reform, Corporate Governance, and the Foreign Share Discount Puzzle in China

European Journal of Finance, Forthcoming

41 Pages Posted: 23 Jan 2012

See all articles by Wenxuan Hou

Wenxuan Hou

University of Edinburgh - Business School; Shanghai Lixin University of Accounting and Finance

Edward Lee

University of Manchester - Alliance Manchester Business School

Date Written: October 31, 2011

Abstract

We examine the impact of the Split Share Structure Reform on the well-known foreign share discount puzzle in China. Existing literature confirms that foreign investors are more concerned about insider expropriation because of their information disadvantage relative to domestic investors. The split share structure of the ownership of Chinese listed firms created a conflict of interests between state and private shareholders. Since, before the reform, state shareholders held restricted shares that denied them any wealth effect from share price movements, they had a limited incentive to work with private shareholders to ensure that managers maximized the stock market value of the firm. By abolishing the trading restrictions for state shareholders, this reform has increased the incentive alignment between state and private shareholders, encouraging them to monitor managers. If foreign investors’ concerns over the corporate governance implications of the split share structure at least partly contributed to their discounting of Chinese listed firms, then this discount should be reduced following the reform. Indeed, our evidence confirms this prediction, especially among Chinese listed firms with more state ownership or restricted shares. Our findings imply that this significant institutional reform of the Chinese stock market has benefitted minority investors.

Keywords: Split Share Structure Reform, corporate governance, foreign share discount, ownership structure, China

JEL Classification: G32, G35

Suggested Citation

Hou, Wenxuan and Lee, Edward, Split Share Structure Reform, Corporate Governance, and the Foreign Share Discount Puzzle in China (October 31, 2011). European Journal of Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1989630

Wenxuan Hou (Contact Author)

University of Edinburgh - Business School ( email )

University of Edinburgh
29 Buccleuch Place
Edinburgh, Scotland EH8 9JS
United Kingdom

HOME PAGE: http://www.wenxuanhou.com

Shanghai Lixin University of Accounting and Finance ( email )

Edward Lee

University of Manchester - Alliance Manchester Business School ( email )

Booth St. West (Crawford House)
Manchester, M15 6PB
United Kingdom

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