Pay-or-Explain Regulation and Minority Shareholder Expropriation



We investigate a 2012 pay-or-explain regulation implemented by China’s Shanghai Stock Exchange. The regulation mandates that eligible firms must either pay 30% of their current-year profits as cash dividends or explain the reasons for not meeting this requirement through a public conference call. Using firms listed on the Shenzhen Stock Exchange as a control group, our difference-in-differences estimates suggest that firms subject to the regulation decreased their tunneling, irrespective of whether they complied by paying or disclosing. Further analyses suggest that the reduction in tunneling is partially attributed to enhanced external monitoring of paying firms by analysts and of disclosing firms by shareholders. These findings offer novel policy insights into how a flexible pay-or explain form of regulation can mitigate agency costs between controlling and minority shareholders in a weak institutional environment.