The Impact of Mandatory Operating Information Disclosure on Related-Party Transactions: Evidence From China

Abstract

Research Question/Issue

We investigate the impact of mandatory operating information disclosure rules on related-party transactions (RPTs) in Chinese-listed firms. To achieve this, we use the staggered implementation of China's Industry Disclosure Guidelines (CIDG) as an exogenous shock to firms' operating information. We then examine how this regulatory change influences controlling shareholders' expropriation behavior through RPTs.

Research Findings/Insights

The implementation of CIDG results in a reduction in suspicious RPTs, indicating that the mandatory disclosure of operating information effectively mitigates expropriation behavior by controlling shareholders. Additionally, we observe improvements in both the quantity and quality of disclosures after the CIDG, which enhances corporate governance by increasing investor attention and improving the efficiency of regulatory inquiries into RPTs. In our cross-sectional analysis, the impact of the CIDG is more pronounced for firms with weaker internal controls, lower institutional holdings, and a weaker institutional environment as compared to their counterparts, suggesting a “substitution effect” between the CIDG and firms' internal and external governance mechanisms.

Theoretical/Academic Implications

This study contributes to addressing the challenge of curbing opportunistic RPTs in emerging markets. Our study contributes to previous research by emphasizing the crucial role of operating information. This information enhances outsiders' ability to comprehensively understand and utilize disclosed numbers, thereby compensating for a firm's weak corporate governance and restraining expropriation by controlling shareholders. We also provide evidence that corporate governance can be strengthened by improving operational transparency. Our study also contributes to the literature on the actual effect of information on managerial behavior.

Practitioner/Policy Implications

This study has several important policy implications. Providing sufficient operating information to minority shareholders and other monitors can empower them to oversee controlling shareholders' behavior effectively. Policymakers can enhance market discipline by reforming information disclosure rules and promoting industry-level transparency, particularly in emerging markets that have insufficient investor protection against tunneling.