Research On The Cost Of Equity Capital Of Private Enterprises Affected By Political Connections

Since the reform and opening up, China’s private enterprises have developedfrom weak to strong miraculously, which become important parts of the transitioneconomy. The development of enterprises depends on the resources, and in a marketeconomy environment, the efficient allocation of resources depends on effectiverestraint and coordination of the legal system, financial development level of formalsystem. However, under the current conditions of imperfect formal s ystem, China’sprivate enterprises are often at a disadvantage in policy resource acquisition, capitalallocation and other aspects. In order to guarantee the stable development ofenterprises, private enterprises eager to establish political connections in the form ofgovernment officials, CPPCC members or deputies to obtain support and protect fromthe alternative mechanism of informal relations contract.Traditional research pays more attention to the influence of effect factors on thecapital cost under the informal institution, The paper attempts to explore the impact ofpolitical connections of private enterprises, which is informal institution, on the costof equity capital. For solving this question, we deduce the underlying theoreticalhypothesis based on law and finance theory, social capital theory, informationasymmetry, transmission of information theory, and we found that politicalconnections can influence the enterprises’ financing behavior through positive signaltransduction mechanisms. And then take the direct listed A-shared private enterprisesin China from2009to2011as samples to empirically test the effect of politicalconnections on cost of equity capital. Results of this study show that the politicalconnections of private enterprises have helped reduce the company’s cost of equitycapital; while in the process of lower market area, the action of political connectionsis even more significant, which is more likely to be trusted and recognized byinvestors This suggests that, under the existing formal institutional environment,political connections of private enterprises, which is social capital created as aninformal contract, could be able to influence investors’ confidence in the evaluationof the enterprise, thus reducing the investment rate of return investors require.Relative to the state economy, private enterprises still lack a long-term fairmarket environment. Government should be far-sighted in the interaction with privateenterprises to promote the development of private economy healthily and orderly. Therefore, this paper puts forward relevant policy recommendations, such asaccelerating the transformation of government functions, improving the system and toensure fair competition in the market and continuing to promote the process of themarket.