Tunneling, Propping and Expropriation: Evidence from Connected Party Transactions in Hong Kong

Abstract

We examine a sample of 375 filings of connected transactions between Hong Kong listed companies and their controlling shareholders during 1998-2000. We address three questions: What types of connected transactions are likely to lead to expropriation of minority shareholders? Which firms are more likely to expropriate? Does the market anticipate the expropriation by firms? On average, firms earn significant negative excess returns both at the initial announcement of the connected transactions and during the 12-month period following the announcement, significantly lower than firms announcing similar arms' length transactions. Excess returns are significantly negatively related to percentage ownership by the controlling shareholder and to proxies for information disclosure. The likelihood of undertaking connected transactions is higher for firms whose ultimate owners can be traced to mainland China. We find limited evidence that firms undertaking connected transactions trade at discounted valuations prior to the expropriation, suggesting that investors cannot predict expropriation and revalue firms only when expropriation does occur.

Keywords: International corporate governance, legal systems, expropriation, connected transactions, pyramids, tunneling, propping

JEL Classification: G14, G15, G34, K33