Internal and external managerial challenges of Ponzi financing in China

Purpose This paper explores the intricate relationship between corporate financing activities and stock price collapse risk, with an emphasis on the economic consequences of Ponzi financing. By examining the transmission channels of information opacity and financial distress, it develops a conceptual framework to clarify the impact of Ponzi financing on stock price collapse risk, thereby providing a deeper understanding of various financing mechanisms. Design/methodology/approach During economic downturns, Ponzi financing – where companies rely on new debt to service existing obligations – exacerbates instability in China’s financial market. However, the existing literature provides limited clarity on the risks associated with Ponzi financing and potential mitigation strategies. This study empirically investigates the economic consequences of Ponzi financing by analyzing a sample of Chinese A-share listed companies from 2006 to 2020, with a particular focus on stock price crash risk. Findings Firms engaged in Ponzi financing exhibit a significantly higher risk of stock price crashes than non-Ponzi financing firms, a conclusion that remains robust after addressing endogeneity concerns and conducting multiple robustness tests. Mechanism tests indicate that the increased risk of stock price collapse associated with Ponzi financing is primarily driven by reduced information transparency and an elevated risk of financial distress. Heterogeneity analysis reveals that the adverse effects of Ponzi financing on stock price crash risk are more pronounced in non-state-owned enterprises, firms with greater financing constraints, and companies with lower levels of research coverage. Further analysis suggests that digital transformation and improved information disclosure can mitigate the stock price crash risk linked to Ponzi financing. Research limitations/implications This study enhances the understanding of the relationship between corporate financing practices and stock price collapse risk, offering valuable insights for both financial practitioners and policymakers. Future research should consider broader economic contexts and international comparisons to deepen insights into the long-term implications of Ponzi financing. Originality/value Drawing on practices in China’s capital market and the empirical findings of this study, the following policy recommendations are proposed: (1) enhanced regulatory oversight: regulatory authorities should strengthen monitoring mechanisms for Ponzi financing firms by implementing early warning systems to detect financial instability and prevent sudden collapses. Additionally, regulators should oversee relationships with accounting firms to reinforce third-party accountability and enhance financial disclosures. (2) Improved corporate governance: strengthening corporate governance is crucial for ensuring market stability. Ponzi financing firms should prioritize engagement with intermediaries and self-regulatory organizations, improve information transparency and enhance internal controls and independent director systems to mitigate risks related to managerial opportunism and internal conflicts.