Corporate Governance and Collateral Requirements: Evidence from China's Listed Firms

Abstract

Since the 2007 financial crisis the use of collateral has again come back into the focus of academics and practitioners. However, the existing literature on the determinants of collateral has concentrated mostly on developed markets, especially the U.S. and the U.K., although collateral is even more important due to the opaque information that exists in developing markets. This thesis conducted useful tests of whether the theories that have been established and applied to explain the determinants of collateral in developed markets are applicable to the world’s largest emerging market, China. Since China introduced economic reforms in the late 1970s, it has been growing at high speed, with the banking sector being the primary source of finance for its growing economy (Bailey et al., 2011). With this pronounced economic expansion and increasing competition for funds, the investigation of collateral requirements in bank loans has been an extrusive issue in China. Firstly, this research examined the effect of ownership structure on collateral requirements using a sample of China’s listed firms. I found that compared to non-stateowned enterprises (non-SOEs), state-owned enterprises (SOEs) were less likely to be required to pledge collateral. The empirical results also showed that banks were more willing to offer unsecured loans to companies with more foreign ownership or with more bank loans guaranteed by third parties, and the aforementioned effect of state ownership on reducing collateral requirements became weaker in those companies. This research also found that the aforementioned effect of state ownership on reducing collateral requirements became more pronounced for firms operating in regions with more government intervention. Secondly, this research examined the effect of ownership structure on the lending relationships in China’s listed firms. The findings indicated that SOEs were more likely to receive bank loans from state-owned banks than non-SOEs. The empirical results also showed that firms with more foreign ownership were more likely to receive bank loans from foreign banks. There was no significant difference between SOEs and non- SOEs in the probability of obtaining loans from joint stock commercial banks, while firms with more foreign ownership were more likely to obtain loans from this type of banks. Moreover, both SOEs and firms with more foreign ownership were more likely to maintain multiple banking relationships. It was also found that firms that operated in regions with a better institutional environment had more concentrated ownership in bank loans rather than multiple banking relationships. My findings also implied that joint stock commercial banks have a comparative advantage in processing private information and delivering relationship lending rather than collateral based lending, while concentrated banking relationships were also helpful for gathering information and reducing collateral requirements. Moreover, the role of concentrated banking relationships in reducing…