**2. Background**

The Chinese economy is one of the fastest-growing transitional economies globally [40]. As in most developing countries, China has embraced a comprehensive economic reform program since the early 1990s that liberalizes the economy and supports the private sector. The privatization program in China ushered in two stock exchanges: the Shanghai Stock Exchange, which opened in 1990, and the Shenzhen Stock Exchange, which opened in 1991. Since then, the Chinese market has attracted massive investments from China and overseas. The ensuing economic developments required the establishment of governance structures, especially ownership structures, to monitor corporate actions and performance. However, in contrast to developed countries, China's CG process is determined by the political and institutional factors, where the state plays an essential part [41]. Hence, it is crucial to understand the institutional context where CG is applied before understanding the ownership structures–firm performance relationship.

Chinese companies were allowed to issue different types of shares to different kinds of owners. Domestic investors (including legal persons, the state, and individuals) can invest in shares of type A. SOEs own the majority of state and legal-person shares to retain voting control. State shares are owned by all country people and managed by the State Assets Management Bureau (SAMB) to nominate directors to the general shareholders meeting [6]. Legal shares are those owned by local organizations such as banks, insurance firms, and mutual funds. The management of those entities cannot change the present level of state ownership [6]. A-type shares are listed on Shanghai and Shenzhen stock exchanges and traded in Renminbi [29]. Foreign investors can invest in B- or H-type shares [33]. B-type shares are traded in USD (in Shanghai exchanges) or HKD (in Shenzhen exchanges). Finally, H-type shares are traded in USD in Hong Kong. Chinese companies can issue H-type shares in the Hong Kong Stock Exchange [29].

In 2001, local investors were allowed to invest in B-type shares, presenting more investment opportunities in the market. In the same year, the government sold out stateowned shares, raising the share of private firms in the market to 20% within the next two years, following their being sold [42]. By then, most A-type shares (owned by governmental institutions) were non-tradable; instead, they were traded on a contract basis that required the acceptance of regularity authority [43]. In contrast, tradable shares were owned by individuals and other private persons. This dual structure can be dated back to the earlier reform in 1978. Then, there were two types of ownership in China: SOEs (constituting most companies) and collectives run by municipalities and communities. However, this dual structure had severe economic impacts and increased the agency problem [44,45]. Thus, several reforms followed, but they were not successful enough to achieve real economic impacts [46].

One of the notable reforms was presented in 2005, noting that, as of February 2005, nontradable shares represented approximately two-thirds of the whole outstanding shares [38]. In particular, on the 29 April 2005, the China Securities Regulatory Commission presented the split-share structure reform, allowing public companies' non-tradable shares to be tradable by eliminating restrictions on all shares [8]. In doing so, non-tradable shareholders were requested to pay compensation to tradable shareholders to be able to sell their shares. The compensation is discussed through negotiation between the shareholders. This reform process was gradually implemented. Firstly, after 12 months of the agreement on the

compensation, the restricted shares held by owners holding less than 5% of the company ownership became tradable. Then, within the next 12–24 months following the agreement, the restricted shares owned by owners holding more than 5% of the company ownership became tradable. Finally, 36 months after the agreement process, all restricted shares had become tradable [8]. This reform aimed at revitalizing and further liberalizing the stock market by opening the door for the second privatization wave. This significant change in ownership structures in China has attracted the attention of several researchers. Some studies noted that it could reduce the principal-agent agency problem see [43,46,47]. Further, by addressing the economic impacts of the stock split reform, Sun et al. [47] found that it had decreased tunneling and crash risk. Hence, the stock split reform significantly influences ownership structure, moving the market towards lower ownership concentration and state control [48]. However, despite these reforms, the state remains a significant owner in many enterprises [38,49].

#### **3. Ownership Structure and the Agency Problem: Theory**

The separation of ownership (principals) and management (agents) may result in conflicts of interests, which increases agency costs [50,51]. These costs are related to monitoring and controlling managers' behaviors and the expected losses due to suboptimal performance. In contexts with significant ownership concentration, state ownership agency conflicts might appear, not only between owners and managers but also between large owners and minority owners [52,53]. Here, corporate governance mechanisms, including ownership structures, can have an influential role in monitoring the abusive behaviors of managers and owners. This could reduce the agency problem and direct organizational actions to serve the company's interests, instead of performing a particular group's interests [54].

Based on the agency theory, ownership concentration can work as an effective governance mechanism to decrease agency costs [55]. According to this perspective, when ownership is concentrated, individual investors have significant incentives to monitor and exercise more influence over the major company decisions [51,56]. This might eventually enhance the company's performance [33].

In contrast, according to the agency theory, state owners, with unique objectives that differ from other parties' objectives, may contribute to ineffective governance and lower managerial incentives [57]. This may result in lower corporate company performance compared to the case of privately-owned companies [58,59]. This is based on the argument that the state's "grabbing hand" (the principal owner) would divert resources away from the company [60]. Instead, SOEs direct resources towards achieving social and political objectives (such as securing votes for the ruling party) rather than business objectives (such as profit maximization) [36,61,62]. Further, state owners are likely to retain surplus employees or appoint political allies, regardless of the company's economic position [63]. In fact, they are reported to obtain supplies from expensive suppliers and make overinvestment decisions [57]. These suboptimal actions ultimately expropriate resources from minority owners and increase agency costs, negatively impacting corporate performance [36,53].

#### **4. Literature Review and Hypothesis Development**

CG mechanisms can induce managers to work in the company's best interest rather than serve their interests, i.e., they can resolve the agency conflict arising from the ownership– management relationship [55]. As discussed below, a critical CG mechanism is related to ownership, such as ownership concentration and state ownership (SO), which can have different implications for firm performance.

#### *4.1. Ownership Concentration and Financial Performance*

High ownership concentration can have unique impacts on CG issues and firm performance that are worthy of special investigation [64]. We observed different studies conducted in different contexts and reporting variant performance implications by reviewing the literature [18,33]. On the positive side, by the knowledge and experience they have accumulated, and the power they have over managers, larger owners are noted to better control, monitor, or govern managers (agents) [18,19,65]. This can enable them to eliminate the opportunistic behaviors of managers, acting in the interest of minority owners and the whole company [66], see also [28,67,68]. In this regard, Joh [69] reported that higher levels of ownership concentration can enhance Korean companies' economic performance. Further, Omran [70] noted that ownership concentration enhances Egyptian companies' performance. Gaur et al. [21] observed that lower levels of ownership concentration are related to lower company performance in New Zealand. In the context of Pakistan, Waheed and Malik [71] found that ownership concentration can reduce the agency problem. In the Indian market, Nashier and Gupta [15] found that ownership concentration improves the monitoring of management, which eventually enhances corporate performance.

In contrast, another stream of studies noted that larger owners could work to serve their interests due to their information and power [72]. In this concern, Nguyen et al. [27] suggest that significant ownership concentration minimizes the positive impacts of CG mechanics, such as having more independent directors on the board [8]. This dominance of control by larger owners could ultimately manipulate the company and expropriate minority owners [73], resulting in conflicts between larger and minority owners [8,52,66]. For example, Leech and Leahy [74] and Mudambi and Nicosia [75] reported a negative relationship between ownership concentration and U.K. companies' economic performance see also [68,76,77].

Other studies reported a U-shaped relationship, such as Morck et al. [78] in the USA and Altaf and Shah [16] in India [19,79]. Finally, other studies did not report a significant association between ownership concentration and corporate performance. For example, concentrating on the context of some Arab countries, Omran et al. [80] found that ownership concentration has no impacts on corporate performance. Demsetz and Lehn [81] and Agrawal and Knoeber [82] found an insignificant association between ownership concentration and firm performance in the US context. Further, Yasser and Al Mamun [83] reported no significant association between Pakistani companies' financial performance and ownership concentration see also [84,85].

The case is not highly different in the context of China, where inconclusive results are also reported. For example, Xu and Wang [86] and Ma et al. [73] found that ownership concentration is associated with company performance. However, Tian [87] found a U-shaped relationship. Gunasekarage et al. [33] noted detrimental impacts of block ownership. Ding et al. [88] highlighted the expropriation problem by controlling owners due to ineffective governance systems.

In developing markets such as China, where governance mechanisms and legal systems are not as highly effective as is the case in developed markets, it is argued that ownership concentration impacts become more critical and apparent [17,35]. We contribute to studies in emerging economies by bringing extensive recent evidence from the Chinese market by testing the first hypothesis:

**Hypothesis 1 (H1).** *There is a significant positive relationship between ownership concentration and firm financial performance.*

#### *4.2. State Ownership and Financial Performance*

Significant research has examined the impact of state ownership on company performance. The majority of these studies indicate the inefficiency of state-held companies compared to private companies. However, as in the case of ownership concentration, the literature has reported different results see, e.g., [57,62,89,90], highlighting the contextdependence of the reported results. Using international evidence, Aguilera et al. [24] found that the relationship between state ownership and corporate financial performance varies across different contexts.

Several studies reported negative findings. For example, Liljeblom et al. [26] found a weaker corporate performance when state owners dominate corporate ownership and control in Russia. Musallam [91] found a negative relationship between state ownership and company value in Indonesia. Similar results are also noted by Aguilera et al. [24], who drew upon international evidence see also [49,92–95]. These results agree with some arguments in the literature regarding SO, such as the high probability of practicing ineffective monitoring rules [96], which might weaken CG mechanisms' impacts [27]. In addition, state owners are more risk-averse than private owners [97], and are associated with lower managerial quality [29]. Moreover, state owners give priority to socio-political goals (such as rising employment rates) instead of economic goals and means (such as pay-for-performance incentives) as in private enterprises [29]. Further, state owners are more likely to appoint their political allies in managerial positions, regardless of their expertise level [98,99].

Regarding the case of China, where a significant number of firms are classified as SOEs [44], contributing a high level of the country's GDP, mixed findings are also observed [100]. Some studies reported negative impacts of state ownership on corporate financial performance see, e.g., [33,49,59,101]. However, other studies reported positive or beneficial impacts of SO on corporate performance see [36,41,62,102]. For example, on the positive side, Liu et al. [103] noted that CG mechanisms contributed to enhancing corporate performance in SOEs. Likewise, Liu et al. [104] pointed out that state owners could reduce the adverse effects of product market competition. In contrast, supporting the mixed results in the previous studies, Zhou et al. [105] found that while state owners help Chinese companies obtain R&D resources, they make these companies less efficient in using these resources. These variant findings indicate the present complexity of the Chinese context [24]. We contribute to this debate by examining the effect of state ownership through testing the following hypothesis:

**Hypothesis 2 (H2).** *There is a significant negative relationship between state ownership and firm financial performance.*
