Major Shareholders Of Listed Companies In China Stock Credit Risk Caused By Illegal Problem Research

To maximize personal benefits, controlling shareholders of listed companies may expropriate company assets in violation of applicable laws, regulations or Articles of Association, which can adversely impact stock prices, lower investment returns, bring about special treatment from stock exchanges, or even get the company delisted, and ultimately cause serious losses for minor shareholders. Such kind of financial risk must be properly measured, assessed, monitored and treated by minor shareholders so as to make effective investment decisions.The existing literature has been studying expropriation behavior of controlling shareholders from two perspectives. First, the "Law and Finance" theory analyzes the impact of different law systems on protection of minor shareholders, corporate value, shareholder structure and capital flows et al., and the mechanisms by which they influence each other. Second, the corporate governance theory analyzes the principle-agent relationship between controlling shareholders and minor shareholders. In lack of consideration for financial risk management needs of minor shareholders and relevant regulators, these studies are not helpful enough for them to make informed decisions.To solve this problem, we proposed the Equity Credit Risk perspective and defined it as the uncertainty of stock return for minor shareholders resulting from controlling shareholders’expropriation of company assets. Under the financial risk management framework, we elaborated it in the following steps.Firstly, starting from its origination, we rationalized the use of the term of Equity Credit Risk based on the existing literature and discussion of its connotation and characteristics. We then classified expropriation behaviors into different types and discussed their respective characteristics and differences from default credit risk.Secondly, upon analysis of typical cases of Chinese listed companies which had been punished by the China Securities Regulatory Commission or the stock exchanges, we explained the driving factors behind expropriation behaviors under the "Fraud Triangle" theory. We then established a Private-Profit-Maximization model to analyze the factors influencing expropriation behaviors. Using statistical methods, such as prime components analysis and step Logit regression, some of the hypotheses derived from the model were verified, which can be further used as inputs in the measurement model for equity credit risk.Thirdly, in analyzing how expropriation behaviors can lead to losses for minor shareholders, we proposed three possible mechanisms, namely "Equity Value Decreasing Mechanism","Disclose Report Mechanism" and "Punishment Report Mechanism". The first two mechanisms were supported by event studies and losses should be assessed by cumulative abnormal return under these two mechanisms. This result helped to estimate the loss given expropriation which is required in the upcoming measurement model for equity credit risk.Fourthly, and most importantly in this paper, in reference of measurement models of default credit risk, we proposed a measurement model for equity credit risk based on expropriation probability (EP) and loss given expropriation (LGE). As EP and LGE are estimated, we can find the distribution of the equity credit loss, by which the parameters of equity credit risk, such as expected equity credit loss, unexpected equity credit loss, and equity credit value at risk (VaR), can be calculated. EP can be estimated by linear discrimination, Logit regression, and data envelop analysis (DEA). According to empirical studies on Chinese listed companies, the DEA method is verified to be most effective.Fifthly, using the verified model from the last part, we measured the equity credit risk of all data-available and non-financial-industry A shares in Shanghai and Shenzhen Stock Exchanges during2004-2011. Examples of measurement results for both individual shares and market averages were reported. The measurement results showed that serious equity credit risk now exists for Chinese listed companies, featuring high frequency and large losses, high volatility, and high diversity among corporations. Plus, market average equity credit risk has been increasing in the past3years.Lastly, based on the results of above-mentioned studies, we put forward advice on how to manage equity credit risk for regulators, market makers and investors.