Leverage and Investment under a State-Owned Bank Lending Environment: Evidence from China

Abstract

This study examines the relations between leverage and investment in China's listed firms, where corporate debt is principally provided by stateowned banks. We obtain three major findings. First, there is a negative relation between leverage and investment. Second, the negative relation between leverage and investment is weaker in firms with low growth opportunities and poor operating performance than in firms with high growth opportunities and good operating performance. Third, the negative relation between leverage and investment is weaker in firms with a higher level of state shareholding than in firms with a lower level of state shareholding. Overall, our results are consistent with the hypothesis that the state-owned banks in China impose fewer restrictions on the capital expenditures of low growth and poorly performing firms and also firms with greater state ownership. This creates an over-investment bias in these firms.

To what extent did the economic stimulus package influence bank lending and corporate investment decisions? Evidence from China

“…Better performing firms are likely to obtain more bank loans, so the coefficient is expected to be positive. Q is the value of Tobin's Q calculated as the ratio of firm market value to replacement value, which is used as a proxy for firm investment opportunity (Firth et al, 2008;Chen et al, 2011). As firms with better investment opportunities are likely to receive more bank loans, we expect a positive coefficient for Q.…”

“…In particular, the industry stock returns are measured as the average holding period stock return for all sample firms in a specific industry. We estimate equation (3) Following prior studies (Firth et al, 2008;Chen et al, 2011), we include the following control variables. Leverage is defined as the proportion of total debt to total assets.…”

“…In the Chinese capital market, bank loans are the main source of external finance for corporations, due to the underdeveloped stock and bond market (Cull and Xu, 2000;Firth et al, 2008). In this sense, firms in China are mostly bank-dependent and the borrowings of most firms are supported by bank loans (Firth et al, 2012).…”

“…The Chinese capital market and credit supply expansion provide an excellent environment which cannot be replicated in other countries, such as the US, for the following reasons: first, bank loans in China are almost the only external financing resource for firms, due to the immature non-bank financing market (Firth et al, 2008;Shen et al, 2014). Thus, firms in China are more bank-dependent, which makes them much more sensitive to changes in bank loan supply and enables us to examine the influence of bank loan supply shock with less concern for endogeneity issues.…”

Empirical Research on Corporate Governance in China: A Review and New Directions for the Future

“…In fact, firms with poor financial performance and high managerial expenses are more likely to obtain bank loans and report poor subsequent performance (Bailey et al, 2011). State-owned banks also impose fewer restrictions on capital expenditures of poorly performing firms and firms with greater state ownership (Firth, Lin, & Wong, 2008). Moreover, shareholders react negatively to bank loan announcements, particularly when borrowers are rated poorly on credit worthiness (Bailey et al, 2011), suggesting that shareholders have no confidence in the banks as an effective external governance mechanism.…”