Strong ESG Performance Curbs Corporate Tunneling by Controlling Shareholders in China

A sweeping new study of Chinese listed firms finds that strong environmental, social and governance performance can significantly reduce a chronic problem in emerging-market corporate governance: the deliberate transfer of resources out of companies by their controlling shareholders, a practice known as tunneling. The research, published in Humanities and Social Sciences Communications, draws on more than a decade of data from Chinese A-share listed companies to show that ESG performance is not merely a reputational badge but a measurable constraint on the opportunistic behavior of dominant owners.

Tunneling occurs when controlling shareholders exploit their positional advantage to divert assets, profits or business opportunities away from minority investors. Common manifestations include related-party transactions priced to favor the controlling owner, loans and advances extended to affiliates that are never repaid on commercial terms, guarantees issued for the private benefit of connected parties, and outright misappropriation of funds. Because controlling shareholders typically hold voting power disproportionate to their cash-flow rights, the private gains from tunneling can exceed their share of the losses inflicted on the firm, making the practice rational for the dominant owner even as it destroys value for everyone else.

The study measures tunneling primarily through the net level of other receivables that controlling shareholders and their related parties owe to the listed firm, a widely used proxy in Chinese empirical research because misappropriated funds often sit on the balance sheet in this form. The authors construct this measure from firms’ annual reports and combine it with ESG performance scores, allowing them to test statistically whether companies that score higher on environmental, social and governance dimensions exhibit less evidence of resource diversion by their dominant owners.

The empirical findings are consistent: higher ESG performance is associated with significantly lower tunneling by controlling shareholders. The relationship survives a battery of robustness checks, including alternative measures of both ESG performance and tunneling, adjustments for the potential endogeneity of ESG choices, and the use of instrumental-variable and lagged-value strategies to address the concern that causality might run the other way. Firms with stronger ESG profiles, the results suggest, are systematically less likely to see their resources siphoned off by insiders with control.

Why would environmental and social responsibility discipline a controlling shareholder who wants to raid the till? The study identifies several interlocking mechanisms. First, ESG performance functions as a reputational asset. A controlling shareholder contemplating tunneling must weigh the private benefit of diversion against the cost of damaging a hard-won public image of responsible stewardship. Because ESG ratings are increasingly visible to investors, regulators, business partners and international capital, the reputational penalty of exposure rises with the firm’s ESG standing, tipping the cost-benefit calculation away from expropriation.

Second, the information channel matters. High-ESG firms tend to attract greater scrutiny from analysts, institutional investors, media and rating agencies, all of which increase the transparency of corporate transactions and raise the probability that related-party dealings will be detected and challenged. ESG-oriented firms also tend to have stronger internal governance structures, including more independent boards and better internal controls, which directly obstruct the approval and concealment of tunneling transactions. Third, external financing pressure reinforces the effect. Firms that want to tap capital markets on favorable terms, particularly foreign institutional investors who increasingly apply ESG screens, have a concrete financial incentive to protect minority shareholders, and refraining from tunneling is a prerequisite for that credibility.

The research also explores heterogeneity, revealing that the disciplining effect of ESG is not uniform across corporate China. The restraining influence of ESG performance on tunneling is stronger in firms with lower external audit quality, weaker investor protection environments and higher financing constraints, conditions under which the reputational and informational safeguards associated with ESG substitute for other governance mechanisms. State-owned enterprises show different patterns from private firms, reflecting the distinct incentives and political constraints that shape managerial and shareholder behavior in each ownership category. These findings suggest that ESG performance operates as a governance substitute precisely where traditional mechanisms are weakest, a result with clear policy relevance for emerging markets.

The Chinese setting makes the study particularly consequential. China’s capital markets host thousands of listed firms in which a single family, founder or state entity typically retains effective control, while minority shareholders provide much of the capital. The separation between control and cash-flow rights, often amplified through pyramidal structures and cross-holdings, creates fertile ground for expropriation, and Chinese regulators have repeatedly tightened rules on related-party transactions and fund misappropriation. Yet enforcement remains uneven, and the study’s results point to a market-based complement to regulation: if firms can be induced to genuinely improve ESG performance, minority investors gain a partially self-enforcing shield against insider expropriation.

The study carries implications well beyond China. Global investors have poured trillions of dollars into ESG-labelled assets, and critics have questioned whether ESG scores capture anything economically meaningful. This research contributes a concrete answer in one important domain: ESG performance is associated with tangible reductions in a specific, measurable form of corporate misgovernance. For asset managers, the results imply that ESG ratings may convey information about the risk of expropriation in emerging-market holdings that conventional financial analysis can miss. For standard-setters and exchanges, the evidence supports policies that integrate ESG disclosure requirements with related-party transaction oversight, since the two mechanisms appear to operate synergistically.

The authors are careful to frame the findings within their limitations. ESG ratings themselves vary across providers, tunneling can take forms not captured by the receivables proxy, and the Chinese institutional context, with its distinctive ownership structures and regulatory environment, may limit generalization to markets where ownership is dispersed. Still, the central message stands: corporate responsibility performance is not decoration. In the battle between controlling shareholders and the minority investors who fund them, credible environmental, social and governance conduct shifts real resources, reducing the leakage of corporate wealth and strengthening the integrity of emerging capital markets from the inside out.

Subject of Research: The relationship between corporate ESG performance and controlling shareholder tunneling in Chinese listed companies

Article Title: Could corporate ESG performance impacts controlling shareholders tunneling: evidence from China

Article References: Could corporate ESG performance impacts controlling shareholders tunneling: evidence from China. (n.d.). https://doi.org/10.1038/s41599-026-08977-0

Image Credits: AI Generated

DOI: 10.1038/s41599-026-08977-0

Keywords: ESG performance, tunneling, controlling shareholders, corporate governance, China, listed companies, related-party transactions, minority shareholders, emerging markets, agency problems, misappropriation, state-owned enterprises