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From passive checks and balances to proactive judicial remedies, this study explores the effectiveness of judicial empowerment in enabling minority investors to exercise shareholder activism and improve corporate governance. By compiling and classifying litigation cases involving Chinese A-share listed companies from 2007 to 2022, we first examine the impact of different plaintiffs on earnings management. Our findings reveal that firms subject to litigation solely initiated by minority shareholders exhibit a significant reduction in earnings management compared to firms sued exclusively by corporate entities. Building on this evidence, we further investigate the rising role of minority shareholder activism in corporate governance within the Chinese market. We find that such litigation effectively curbs corporate earnings management. This effect operates through two channels: improved internal oversight in response to the heightened risks posed by litigation and the deterrent effect of external reputational crises, which lead to more cautious corporate behavior. Additionally, the effect is stronger in high-litigation-risk industries, regions with stronger rule of law, firms with weaker governance, and in cases involving larger claims or securities misrepresentation. We also observe a gradual reduction in real earnings management practices in the years post-litigation, highlighting the long-term governance benefits of minority shareholder activism under an evolving legal protection framework. Furthermore, two major legal reforms—the 2020 Securities Law and the pilot program for diversified dispute resolution mechanisms—further strengthened the disciplining role of minority shareholder litigation.
Lin et al. (Mon,) studied this question.