Tunneling through allies: Affiliated shareholders, insider trading, and monitoring failure

This study investigates whether and how the relations between controlling and non-controlling large shareholders affect corporate governance and finds that shareholder relations play an important role in facilitating private benefit extraction and monitoring avoidance. Using the stock selling events in Chinese listed firms from 2006 to 2014 as the sample, we find that shareholders affiliated with the controlling shareholder capture more aggressive abnormal returns than controlling shareholders before selling their stocks. We find evidence of earnings management prior to the stock sales by affiliated shareholders. Further analyses show that abnormal returns are greater when the degree of alternative tunneling is low. There are also more good news disclosures prior to sales by affiliated shareholders. The effect of affiliated shareholders is more pronounced in non-state-owned enterprises. The monitoring from independent large shareholders is only effective on the controlling shareholders and it is ineffective for affiliated shareholders. Non-block affiliated shareholders are more successful in avoiding scrutiny. Our findings suggest the importance of considering shareholder relations in research on ownership structure and in investor protection policies.