Research on the Relationship between Corporate Governance and Information Environment in China. Ya-jie HAN* and Qi-song WANG

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1 nd International Conference on Social, Education and Management Engineering (SEME 2016) ISBN: Research on the Relationship between Corporate Governance and Information Environment in China Ya-jie HAN* and Qi-song WANG School of Business, Macau University of Science and Technology, Taipa, Macau, China *Corresponding author Keywords: Corporate governance, Information environment. Abstract. Relationship between corporate governance and information environment was explored by this paper, by using the samples of Chinese firms from Shanghai Stock Exchange over the period of Three indicators have been used to proxy the information environment, which were: analyst following, analyst forecast accuracy, analyst forecast dispersion. Ultimately, the result of this investigation suggests that the better corporate governance result in the larger analyst following and greater forecast accuracy. The better governed firms tend to be associated with the lower forecast dispersion. Introduction Over the last few decades, the economy in China grew significantly. It s now, at GDP, the second largest economy in the world, driving by substantial economic reforms and innovation in policies. But this growth is tripped by the large numbers of corruption in government, especially for those state-owned enterprises(ray, Subhash C., Lawrence M. Seiford, & Joe Zhu., 1998) [1].In addition, culture of collusion appears prevailed in private companies as a result of the permeating atmosphere from department concerned, leading a series of agency problem. More specifically, in the context of Chinese national condition, the agency problems can be noticed as two types. For one type: the conflict between management s interest and share holder s interest, which regard as the traditional one. For the other type: The conflict between majority shareholders interest and minority shareholders interest, which regard as the expropriation (Liu, C., Uchida, K., & Yang, Y, 2012) [2]. In this paper, I tend to conduct a study that shed the relationship between firm-level corporate governance and information environment, and try to find out the importance of capital structure in the relationship of them. Hopefully, this paper can assist the minority investors to perform more sensible in stock selection and perfect their own interest in secondary market. On the other hand, make a suggestion to the enterprise that, how to run their business more effectively and efficiently, and how the corporate governance is reflecting in the information environment, to attract more investors.. Literature Review Agency problems stem from the conflicts of interest between outside shareholders and managers who own an insignificant amount of equity in the firm (Berle and Means,1932; Jensen and Meckling,1976) [3,4]. It is contends that performance-related incentives can mitigate agency costs, as the manager's interests are aligned with maximizing shareholder value. However, information disclosure is a prerequisite for monitoring managers and analyzing performance. In emerging markets with infant institutions, business groups might compansate for the lack of external governance (Khanna& Palepu, 2000) [5]. Also, Financial analysts are important and influential users of financial reports and a major group of information intermediaries (Yu, 2010) [6]. Moreover, the indirect approach assumes that stock markets are efficient and liquid, which is questionable in China (Gao& Kling, 2006) [7]. It is also found that analysts' forecasts are more

2 accurate for large firms (Brown et al., 1987) [8]. Which shows that there exists a positive relationship between the corporate governance and the good analyst following. Hypothesis Development and Data Hypothesis Development According to Yu (2010) [6], as a role of information intermediaries, the analysts are in the situation that, the more corporate governance disclosures, the more information is available for analysts and therefore make their forecast more valuable to investors, following by a larger demand and need in analyst serves.on the contrary, if analysts function as information providers, the more governance disclosures to investors, the less analyst services are demanded. Based on those two perspectives I mentioned above, the first hypothesis is non-directional: H1: The number of analysts following a company is related to the extent of corporate governance, but the sign of the relationship is unknown. In a prior research,byard, Li&Weintrop(2006) show that forecast accuracy can proxy for the quality of a firms information environment, because analysts are key users of firms financial disclosures[9]. In addition, Beekes and Brown (2006) find that better corporate governance leads to a higher level of analyst following and greater forecast accuracy among Australian firms[10]. According to the literatures mentioned above, the second hypothesis in this paper is that: H2: Analyst forecast accuracy is positively associated with the extent of corporate governance. In the context of Chinese national condition, I tend to believe the argument of Vergauwe, Haß& Zhang (2014) [11], they drew a conclusion that firms with better Cg are associated with lower levels of forecast dispersion. Again, in the in the context of Chinese national condition, the third hypothesis in this paper is that: H3: Analyst forecast dispersion is negatively associated with the extent of corporate governance. Data Selection Majority of data in this paper comes from China Stock Market and Accounting Research (CSMAR). I acquire the data in databases of Chinese-listed firm corporate governance, as the primary source for Cg characteristics. The firms, which are viewed as financial companies or Special Treatment Stock by China Securities Regulatory Commission (CSRC), are excluded in this study. Because, the former are different in accounting disclosure policy and the later are academically meaningless for this study. Meanwhile, those samples which miss the dependent s, independent s, or control s are excluded. Ultimately, there are 904 firms and 7857 observations available for analyst following model; 860 firms and 5470 observations available for forecast dispersion model; 860 firms and 5470 observations available for forecast accuracy model. Research Methodology Data Description We constructed a balanced panel data set comprising 904 firms spanning a period of seven years (2004 to 2014). The independent is the firm-level aggregate index, which is calculated as follow: I sum up the six s of characteristics for each observation, and then the figures are divided by 6. And the 6 figures are noted in Table 1. I construct an aggregate firm- level index to proxy the corporate governance of firms from Shanghai Stock Exchange. Table1 illustrates the properties of those s (i.e. dummy ), the quantization methodology and the name of the s which capture the characteristics. All of the s for constructing the Cg index are dummy s. And the description of dependent s and control s are noted in Table 2.

3 Variabl es Board size Sepce Mos Table 1. Description of firm-level aggregate index. Characteristics Property of Variables Quantization Methodology Board size dummy Equal to 1,if the number of member in the board is greater than 6,but fewer than 3, otherwise 0. Separation of the chairman dummy and CEO positions Equal to 1,if separated, otherwise 0. Percentage of managers' dummy Equal to 1 if the management ownership is greater than ownership 1%,but fewer than 30%,otherwise 0. Top10 The relationship between TOP10 share holders dummy Equal to 1 if no relationship between top 10 shareholders, otherwise 0. Idpd Percentage of number of independent directors in the board dummy Equal to 1 if more 50% independent directors in the board, otherwise 0 Big4 The independency of external auditor dummy Equal to 1,if auditing by Big four international audit firms, other otherwise 0. Property of Dependent s Table 2. Description of dependent s and control s. Variables Explanation & Purpose Quantization Methodology Coverage Analyst following Natural logarithm of the number of analysts following a firm per year Accuracy Forecast accuracy Absolute value of the actual EPS reported in annual report of firms minus the forecast EPS and deflated by the opening price in the stock market at the beginning of the year Dispersion Forecast dispersion The standard deviation of forecasting EPS per year size The size of the firms Natural logarithm of the total asset of the firms Control s roe loss lev mb rrvol volume ifrs For evaluating the profitability of the firms Whether net income of the firms in the annual report is negative For evaluating the financial leverage of the firms For the investor to evaluate the investing risk of the firms The volatility of EPS for the firms during the year To estimate the liquidly of the stock of the firms To estimate the effect of accounting principle Net income divided by the average of beginning comment share and ending comment share of the years Equal to 1,if the net income is negative, otherwise 0. EBIT divided by EBT Market value of the firms to the book value of the firms The standard deviation of EPS for the firms during the year Natural logarithm of the trading volume of the firms Equal to 1,if the year are after 2007, otherwise 0. Estimation Models Model (1), model (2) and model (3) are the models for estimating the association between corporate governance and information environment.

4 Coverage= Cg+ 12 roe+ 13 lev+ 14 mb+ 15 size+ 16 revol+ 17 volume+ 18 ifrs+ 19 loss+ (1) Accuracy= Cg+ 22 roe+ 23 lev+ 24 mb+ 25 size+ 26 revol+ 27 volume+ 28 ifrs+ 29 loss+ (2) Dispersion= Cg+ 32 roe+ 33 lev+ 34 mb+ 35 size+ 36 revol+ 37 volume+ 38 ifrs+ 39 loss+ (3) Empirical Results Descriptive Statistics of the Information Environment Table 3 illustrates the descriptive statistics of the dependent s and the control s and moderator s. The mean of Cg, Coverage, Accuracy, Dispersion are 0.298, 6.937, 0.018, and respectively. As for the Coverage, however, there is a huge gap between the maximum value and minimum value, which indicates that there may be a conformist mentality in the analyst behaviors. There exist 0 as a minimum of Accuracy, which means some of the analysts perform very well in forecasting, or maybe there is some insider-trading among those firms. Table 3. Descriptive statistics. Variable Mean Std.Dev Min Max Cg Coverage Accuracy Dispersion size revol volume roe mb loss lev ifrs Regression Results Table 4 represents the regression results of this study. I use both fixed effect method and random effect method to estimate the parameters for each model. The Chi 2 of Hausman test in model (1) appears significant at the 0.1% significant level, which indicates that fixed effect method is more suitable for model (1). The result is consistent with H1, which indicates that the better governed the firms are, the more analysts follow the firms, which is noted by, Lang &Lundholm,( 1996) [12]; Botosan,( 1997) [13]; Healy, Hutton and Palepu, (1999) [14]. The Cg score is negatively significant at 0.1% significant level in model (2), by both fixed effect and random effect, *** and , (i.e. the greater forecast accuracy, the lower Accuracy in the mode). The parameters in model (2) prove that the better corporate governance is related to higher the forecast accuracy. In investigation result of model(3), Cg sore is not significant at any significant level in the random effect approach. Nevertheless, the Cg is negatively significant at 1% significant level in the fixed effect estimation approach, and the Chi 2 of the Hausman test is significant at 0.5% significant level (157.50), which indicated that the fixed effect method is more sensible for the estimation.

5 Consequently, I can make a conclusion the better governed the firms are, the less forecast dispersion of the firms. Therefore, the investigation results in model (2) and model (3) are consistent with H2 and H3 respectively. Table 4. The regression results of the three models. Coverage -Model(1) Accuracy -Model(2) Dispersion -Model(3) Fixed effect Random effect Fixed effect Random effect Fixed effect Random effect Cg 6.878*** (6.33) 8.545*** (8.30) *** (-3.12) *** (-4.85) * (-1.71) (-0.72) roe 0.714*** (2.84) 0.763*** (3.10) *** (-3.45) *** (-2.83) *** (-6.66) *** (-3.90) lev *** (-11.72) *** (-14.34) (0.21) 0.009*** (3.66) (0.45) 0.012*** (4.65) mb 0.249*** (6.69) 0.267*** (8.29) * (-1.74) *** (-3.15) (0.66) ** (-2.09) size 6.733*** (32.15) 5.820*** (37.82) (-0.17) *** (-4.24) 0.008*** (7.91) 0.002*** (4.36) revol (-1.28) ** (-2.19) (0.80) (0.29) *** (-3.06) ** (-2.39) volume (-0.04) *** (-2.64) 0.002*** (2.71) 0.002*** (4.24) 0.009*** (14.23) 0.007*** (13.42) ifrs 2.181*** (7.31) 3.404*** (12.72) *** (-2.72) *** (-2.62) *** (-4.17) (0.93) loss (-1.02) (-1.06) (1.31) (1.59) (0.66) (0.53) Hausman test Chi2 =164.26*** Chi2 =14.54 Chi2 =157.50*** Numbers of obs Numbers of group R-square 31.69% 39.29% 1.13% 3.45% 12.76% 10.79% The values of t-statistics are reported in parentheses. ***, **, and * denote significance at the 1%, 5%, and 10% levels, respectively. Summary In this paper, I focus on the context of Chinese national condition, by investigating the role of non-tradable share in the listed firms. Because the majority of the economic reforming is reflecting in the shares hold by the state and SOE. How to evaluate the consequent of the reforming? By evaluating the information environment can be an alternatively method for the department concerned. The information environment is relatively more lies in the stand and perspective of investors. Comparing with the profitability, sustainability appears more rational in terms of win-win situation. Again on the primary stage of socialism with Chinese characteristics, unavoidably, no matter privatization or socialization, the listed firms and investor in China suffer from sever agency problems and moral hazard. For such an emerging market, my research is going to fill in the gaps. This study reveals a positive association between corporate governance and information environment by three indicators which are analyst following, analyst forecast accuracy and analyst forecast dispersion. Hopefully, this study can assist the minority investors to perform more sensible in stock selection and perfect their own interest in secondary market. On the other hand, make a suggestion to the enterprise that, how to run their business more effectively and efficiently, and how the corporate governance is reflecting in the information environment, attracting more investors. Finally, introduce a method to the government of China to measure the economic reforming achievement in China.

6 Acknowledgement We would like to thank the National Science Foundation as well as some anonymous referees for their insightful comments and suggestions on our drafting of this paper. Any errors or omissions are the responsibility of the authors. References [1] Ray, Subhash C., Lawrence M. Seiford, and Joe Zhu, Market entity behavior of Chinese state-owned enterprises, J. Omega (1998) [2] Liu, Chunyan, Konari Uchida, and Yufeng Yang, Corporate governance and firm value during the global financial crisis: Evidence from China, J. International Review of Financial Analysis. 21 (2012) [3] Berle, A., Means, G.C, The modern corporation and public property. Harcourt, Brace & World, New York, [4] Jensen, M.C., Meckling, W.H, Theory of the firm: managerial behavior, agency costs and ownership structure, J. Journal of Financial Economics. 3 (1976) [5] Khanna, Tarun, and Krishna Palepu, Emerging market business groups, foreign intermediaries, and corporate governance, Concentrated corporate ownership. University of Chicago Press. (2000) [6] Yu, Minna, Analyst forecast properties, analyst following and governance disclosures: A global perspective, J. Journal of International Accounting, Auditing and Taxation (2010) [7] Gao, L., Kling, G, The impact of corporate governance and external audit on compliance to mandatory disclosure requirement in china, J. Journal of International Accounting, Auditing and Taxation. Vol. 2 (1) (2012) [8] Brown, L.D., Hagerman, R.L., Griffin, P.A., Zmijewski, M. E, Security analyst superiority relative to univariate time-series models in forecasting quarterly earnings, J. Journal of Accounting and Economics. 9(1) (1987) [9] Byard, Donal, Ying Li, and Joseph Weintrop, Corporate governance and the quality of financial analysts information, J. Journal of Accounting and Public Policy (2006) [10] Beekes, Wendy, and Philip Brown, Do Better Governed Australian Firms Make More Informative Disclosures? J. Journal of Business Finance & Accounting (2006) [11] Haß, Lars Helge, Skrålan Vergauwe, and Qiyu Zhang, Corporate governance and the information environment: Evidence from Chinese stock markets, International Review of Financial Analysis. 36 (2014) [12] Lang, M., Lundholm,R. Corporate disclosure policy and analyst behavior, The Accounting Review. 71(1) (1996) [13] Botosan, Christine A. Disclosure level and the cost of equity capital, The Accounting Review. (1997) [14] Healy, P., Hutton, A., Palepu, K, Stock performance and intermediation changes surrounding sustained increases in disclosure, J. Contemporary Accounting Research. 16 (1999)