Stock Liquidity and Firm Value: Evidence from a Policy Experiment in India

• Date: 01 March 2020
• Published date: 01 March 2020
• Author: Mohammad Shameem Jawed,Kiran Kumar Kotha
• DOI: http://doi.org/10.1111/irfi.12200

Stock Liquidity and Firm Value:

Evidence from a Policy Experiment

in India

MOHAMMAD SHAMEEM JAWED

†

AND KIRAN KUMAR KOTHA

‡

†

Faculty, Finance & Accounting Area, Indian Institute of Management

Visakhapatnam, Visakhapatnam, (A.P.), India and

‡

Finance & Accounting Area, Indian Institute of Management Indore, Indore, (M.P.),

India

ABSTRACT

The Indian securities market regulator intervened in June 2010 with a regula-

tory amendment in the listing requirement that mandated all the listed firms

other than PSUs (government-owned companies) to have a minimum public

shareholding of 25%. The affected firms were given a 3-year window to com-

ply with the regulation. This study examines the impact of the new regula-

tion on the affected firms’value. We explore the relationship between

improvement in firms’value and stock liquidity. This regulatory intervention

offers a natural experiment to examine direct causality between stock liquid-

ity and firms’value. The findings of the empirical analysis confirm the exis-

tence of a direct causal relationship between stock liquidity and firm value,

stemming from an improved operating performance.

Accepted: 9 May 2018

I. INTRODUCTION

A close examination of emerging market economies reveals, unlike developed

economies, that the firms are mostly run by business groups or families who enjoy

significant control over the firm’s decision making—as owners and managers of

the firms. Extant research also highlights that the emerging markets are underde-

veloped with a higher degree of information asymmetry, providing such owner-

managers a great deal of independence to make decisions based on their whims

and desires, more so when there are shortcomings in the quality of regulations or

enforcement of contracts (La Porta et al. 2000). Regulators from many emerging

markets had been striving hard to mitigate some of the country-specificmarket

imperfections by amending their regulatory norms. In a similar pursuit, the Securi-

ties Exchange Board of India (SEBI), Indian securities market regulator, amended

the listing agreement for both listed and to be listed firmsonIndianbourses.The

new law mandated the firms to maintain a minimum public shareholding of 25%.

The intent was to enhance the minority shareholders’rights and interest by

© 2018 International Review of Finance Ltd. 2018

International Review of Finance, 20:1, 2020: pp. 215–224

DOI: 10.1111/irfi.12200