Controlling shareholders' share pledging, investment efficiency, and financial distress risk in the China a-share market

Controlling shareholders’ share pledging (CSSP) is a popular and particular financing way. Accompanied by CSSP, numerous firms completed fast expansions through internal investments, external set-ups, and mergers. Quite a few of these firms with CSSP ended with enforcement by financial institutions and then being delisted, making millions of atomistic shareholders hugely suffer. To explore what these listed companies have gone through, from CSSP to financial failures, this thesis aims to examine the effects of CSSP on Chinese firms’ development. The first objective of this research is to explore the relationship between CSSP and firm-level investment efficiency. The empirical results indicate that firms with CSSP are more prone to over-investment than under-investment and the degree of over-investment increases as the CSSP percentage increases. Firms with CSSP invest more in additional investment but less in maintenance investment for particular purposes. The impact of CSSP on under-investment is insignificant. The second objective is to explore the relationship between investment efficiency and corporate financial distress risk. While over- investment has a positive linear relationship with financial distress risk, under- investment has a U-shaped relationship with financial distress risk, indicating a threshold in the under-investment degree. Below that threshold, under- investment alleviates corporate financial distress risk but exacerbates it above that threshold. The third objective is to investigate the impacts of CSSP on corporate financial distress risk. The empirical results suggest that CSSP exacerbates corporate financial distress risk, but the effect decreases as corporate financial distress risk increases. This thesis reminds the regulators to consider if further restrictions on the CSSP are necessary, creditors and investors should be more concerned about firms' cash flows with CSSP while making lending and investing decisions, and minority shareholders should pay attention to the rationality of firms’ operation, investment, and financing decisions made by controlling shareholders after they pledged their shares.

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