The value of political connection: Evidence from the 2011 Egyptian revolution

Accepted Manuscript The value of political connection: Evidence from the 2011 Egyptian revolution Vinh Q.T. Dang, Erin P.K. So, Isabel K.M. Yan

PII:

S1059-0560(17)30819-5

DOI:

10.1016/j.iref.2017.10.027

Reference:

REVECO 1530

To appear in:

International Review of Economics and Finance

Received Date: 6 July 2016 Revised Date:

15 October 2017

Accepted Date: 29 October 2017

Please cite this article as: Dang V.Q.T., So E.P.K. & Yan I.K.M., The value of political connection: Evidence from the 2011 Egyptian revolution, International Review of Economics and Finance (2017), doi: 10.1016/j.iref.2017.10.027. This is a PDF file of an unedited manuscript that has been accepted for publication. As a service to our customers we are providing this early version of the manuscript. The manuscript will undergo copyediting, typesetting, and review of the resulting proof before it is published in its final form. Please note that during the production process errors may be discovered which could affect the content, and all legal disclaimers that apply to the journal pertain.

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The Value of Political Connection: Evidence from the 2011 Egyptian Revolution Vinh Q.T. Danga, Erin P.K. Sob,*, Isabel K.M. Yanc a

Nanjing University of Finance and Economics Hong Kong Baptist University c City University of Hong Kong

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b

Abstract

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We manually construct a list of Egyptian exchange-traded firms that were connected to President Mubarak and use the sudden collapse of his 30-year regime in the 2011 Arab Spring, a natural experiment exogenous to Egyptian firms, to measure the value of this political connection. We find that connection to Mubarak had contributed significantly, about 22.4%, to firm value. Moreover, state-ownership and connection to Mubarak remained separate sources of political capital under the entrenched autocracy. Mubarak-connected firms experienced lower financial constraint before the collapse of the regime and debt-induced equity propping at the peak of the 2008 global crisis. Keywords: Political connection; Firm value; Financial constraint; Propping; Egypt

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JEL classification: D72; G14; G38

Corresponding author at: Department of Economics, Hong Kong Baptist University, Kowloon, Hong Kong E-mail address: [email protected] (Erin P.K. So)

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The Value of Political Connection: Evidence from the 2011 Egyptian Revolution

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Abstract

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We manually construct a list of Egyptian exchange-traded firms that were connected to President Mubarak and use the sudden collapse of his 30-year regime in the 2011 Arab Spring, a natural experiment exogenous to Egyptian firms, to measure the value of this political connection. We find that connection to Mubarak had contributed significantly, about 22.4%, to firm value. Moreover, state-ownership and connection to Mubarak remained separate sources of political capital under the entrenched autocracy. Mubarak-connected firms experienced lower financial constraint before the collapse of the regime and debt-induced equity propping at the peak of the 2008 global crisis. Keywords: Political connection; Firm value; Financial constraint; Propping; Egypt

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JEL classification: D72; G14; G38

Corresponding author at: Department of Economics, Hong Kong Baptist University, Kowloon, Hong Kong E-mail address: [email protected] (Erin P.K. So)

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1. Introduction Year 2011 was marked by a series of dramatic political events in North Africa and Middle East. The “Arab Spring”, first started as a protest against income inequality and corruption in Tunisia at the end of 2010 and Egypt in early 2011, quickly turned into full-scale civil war in other Arab states

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in the region. The events in Tunisia and Egypt are considered significant in the region’s history in that non-violent protests swiftly brought down long-standing military-backed authoritarian regimes. We estimate the value of political connection to Egyptian President Hosni Mubarak by treating the sudden collapse of his 30-year rule as a natural experiment. More specifically, we examine the

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cumulative abnormal returns (CARs) of the stock prices of Egyptian firms with and without connection to Mubarak’s regime around its downfall. We then identify some channels in which political connection can affect firm value. In these analyses, pure- and cross-impact of state-

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ownership and connection to Mubarak are also explored in detail.

There are several innovations in our paper. First, by using a rare, significant, and unexpected political event such as the collapse of Mubarak’s regime, which occurred early in the Arab Spring, we can avoid the endogenity problem in measuring the value of the political connection. This political event, exogenous to Egyptian firms, was a tremendous shock to the Egyptian economy. The firm characteristics, except the connection to Mubarak’s regime, were unlikely to change in the few days

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surrounding the event. Moreover, our approach overcomes a complication in defining political connectedness that arises when the political decision-making is decentralized or the political authority shifts over time in that country (Fisman, 2001). Mubarak was in office for a very long time, first as vice-president (April 1975- October 1981) and then president of Egypt (October 1981 –

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January 2011). Firms’ political connection had been established long before the 2011 revolution. The political authority in Egypt, as in other Arab states in the region, is highly centralized in the hand of

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the top leader, who usually was a high-ranking military officer. The absolute collapse of Mubarak’s power also enhances the effectiveness of our investigation of the value of connection. Second, we consider connection to Mubarak family and state ownership as separate sources of political capital to firms. We examine whether the state, under Mubarak’s entrenched autocracy, can maintain a separate identity or it is identified with the political leader and his family. State ownership per se may provide firms with benefits that are different from those provided by connection to Mubarak. In particular, the “state” continues to exist after the collapse of Mubarak’s regime, upon which the benefits of connection to himself and his family vanished. This issue is not examined in

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the literature, except Sun et al. (2011) who regard these two types of connection “institutional” and “personal” political capitals. Third, information on dealings between businesses and politicians that give rise to the value of political connection is unobservable. Therefore, very few empirical studies have investigated specific

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benefits political connection bestows on firm. Faccio et al. (2006) show evidence that politicallyconnected firms in 35 countries experienced greater likelihood of bailout when they encountered financial difficulties. Blau et al. (2013) find that political engagement with lobbying expenditure had significant impact on the magnitude and timing of 2008 Troubled Asset Relief Program payouts

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received by a firm in the US. Chan et al. (2012) show that Chinese firms with political connection have lower investment constraint. In this paper, besides estimating the value of the political connection, we also empirically identify two channels through which the firm’s political connection

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can contribute to its value: lower financial constraint during regular business operation and greater equity propping during financial distress. In the corporate governance literature, although tunneling and expropriation of firm resources have been studied quite extensively, very few studies (Friedman et al. 2003; Cheung et al. 2006) have examined propping. We hope to provide additional evidence on this important activity of connected shareholders.

Fourth, we manually collect the political connection data from primary and secondary sources.

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From Factiva, a news media database, we identify the names of the business owners and shareholders who may be connected to Mubarak or his family and associates. The names are then verified by other independent sources such as reports from political opposition parties in Egypt and some scholarly publications. We also use several financial databases to check business group

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affiliations and cross-equity holdings to determine which firms are connected to Mubarak’s regime. Besides contributions to corporate finance, our paper is also related to recent work in

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development economics that has emphasized the role of institutions in determining a country’s longrun macroeconomic performance. For example, Acemoglu and Robison (2012) attribute economic prosperity to “inclusive” institutions that protect property rights of the public, thereby fostering investment and innovation. Conversely, abject poverty is an outcome of “extractive” institutions that serve the interests of a few powerful elites, fostering corruption and other rent-seeking activities. In the latter case, the unravelling of the balance between the interests of the elites and those of the mass population lead to revolutions such as the Arab Spring. Estimates of the value of the political connection can therefore serve as a proxy of economic rent exploited by the powerful elites and their business cronies as well as the extent of wealth redistribution in a country. Our findings should 3

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contain important implications for emerging markets with weak governing institutions and an entrenched political regime. In a subsequent study, Acemoglu et al. (2014) also make use of the political turmoil in Egypt during 2011-2013 to study the impact of street protests on the returns of firms connected to different

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political groups (Mubarak, the military, and the Muslim Brotherhood).1 More intense protests are found to be associated with lower stock market valuation for firms connected to the incumbent group. This result is taken as evidence of protests playing a role in restricting the ability of connected firms to capture excess rents.

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There are important differences between our paper and Acemoglu et al. (2014). Our paper strives to measure the value of political connection based on the collapse of Mubarak’s regime alone. Mubarak’s reign lasted far longer than that of military and Muslim Brotherhood (about one year

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each), and therefore Mubarak’s sudden fall was much a bigger shock to Egypt’s economic and political landscapes. Under Mubarak’s 30-year rule, firms had much longer time to build political connection; the benefits of connection had sufficient time to materialize and therefore were fully incorporated in the stock price. In contrast, the tenure of military and Muslim Brotherhood was rendered tenuous by the continued momentum of the popular uprising, giving its success in bringing down Mubarak. Therefore firms might have not been willing to build connection to the ensuing

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political incumbents. Although Acemoglu et al. (2014) show some evidence of corporate boards comprising fewer members connected to Mubarak’s regime and more members connected to the military after the latter political group took over the power, firms did not have enough time to evaluate, build, and reap the benefits of connection under the short-lived military and Islamic rules

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as they did under Mubarak’s regime. Therefore, the collapse of political regimes after Mubarak is not comparable to the collapse of Mubarak regime, and only the latter can adequatly capture the full

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value of political connection.

Second, although one may interpret the differential returns of firms connected to different groups during street protests across different regimes found in Acemoglu et al. (2014) as estimates of value of political connection, it is not plausible to do so. Street protests and their intensity only increase the probability of the incumbent group’s fall; therefore, the differential returns do not measure the actual loss of the political connection per se.

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Our paper was first presented in various seminars and workshops in the spring of 2012.

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Third, we also investigate the channels through which political connection confers benefits to firms. 2 Although there are several studies documenting positive association between political connection and firm value, very few have shown specifically what kind of return firm would get from such a political asset.

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Controlling for important firm characteristics, we find that connection to Mubarak had contributed significantly, about 22.4%, to firm value. The cumulative abnormal return of the connected firms is about 26.5 percentage points lower than that of the unconnected firms in the event windows up to 15 trading days subsequent to the collapse. These estimates are larger in longer

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event windows. It appears that state-ownership and connection to Mubarak remained separate sources of political capital even under an entrenched autocracy. Concurrent state-ownership mitigated the loss of the Mubarak-connected firms. These results stand up to various robustness

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checks and confounding factors. Further investigation of possible channels where political connection contributes to firm value indicates that firms with political ties, particularly to Mubarak, experienced lower financial constraint before the collapse of the regime and greater debt-induced propping at the peak of the 2008 global crisis. 2. A brief literature review

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Studies of relationship between political connection and firm performance or value suggest that politically connected firms may benefit directly from politicians in receiving more government contracts or in being subject to less stringent supervisory oversight. For example, firms are more likely to establish political connections in regions where the local government has greater discretion

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in allocating economic resources such as licensing, tax benefits, and waivers of enterprise liabilities (Chen et al, 2011). There are also indirect benefits such as preferential access to debt financing

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because the lenders reply upon an implicit government guarantee that politically connected firms will be bailed out if they encounter financial difficulties (Faccio et al., 2006). On the other hand, as Shleifer and Vishny (1994) note in their model of bargaining, there are costs to firms in building connection as the involved politicians will extract rents from the firms. For example, Shen et al. (2015) find that politically connected firms are more likely to demonstrate poor governance practices. The firm value would be enhanced only if the benefits gained from the political connection more than offset the costs. 2

Acemoglu et al. (2014) also use Twitter data to study the cohesiveness of the protests and the role of social media in mobilizing protests in Egypt.

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Faccio (2006) finds that announcements of new political connections result in positive abnormal equity returns for firms in 47 countries. Goldman et al. (2009) show that the success of the Republican Party in the US election of 2000 led to an increase in the stock value of firms connected to this party but a decrease in value for firms connected to the Democratic Party. Lin et al. (2016)

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find that in the Taiwanese 2008 presidential election, firms connected to the winning party exhibited positive abnormal returns. On the other hand, the results in Kang and Zhang (2011) indicate that US firms with government directors experience poorer operating performance and lower merger announcement returns. Moreover, the announcements of government director appointments are

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received by investors more negatively than those of nongovernment director appointments. Politically-connected firms also exhibit poor accounting performance (Boubarkri et al., 2011) and post-IPO stock return (Fan et al., 2007) in comparison to their unconnected counterparts.

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A key reason for the conflicting evidence, as noted by Hermalin and Weisback (1988, 2003), is that the establishment of political connection can be an endogenous decision. For example, on the one hand, politicians may choose to associate themselves with firms that have promising business potentials; on the other hand, less competitive firms may be more likely to rely on a relationship with the government to survive. It is therefore difficult to empirically identify any causal relationship between political connection and firm performance.

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The direction of causality can be determined if the firms’ political connection is formed independently of their characteristics. This feature is what Johnson and Mitton (2003) claim present in the sample of Malaysian firms they use to study the effect of capital controls in Malaysia in September 1998. They argue that these firms’ political connection had been formed based on pure-

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chance personal relationships. Their results show that during the capital control, firms with political tie to Malaysian Prime Minister Mahathir experienced significant gain in stock price. Ferguson and

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Voth (2008), in examining the value of political connection of German firms to the Nazi party in early 1933, alleviate the endogeneity problem by using n-dimension matching of politically connected and non-connected firms with similar characteristics. The reliability of this approach depends crucially on the absence of unobservable firm characteristics that determine political connection.

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Alternatively, one can examine events that are exogenous to firm characteristics but determine both political connection and firm value.3 Sudden deaths of politicians can serve as such an event. Roberts (1990) investigates the impact of a US senator’s unexpected death on the value of the firms that had made contributions to his election campaign. The stock price of these firms, especially

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those from the senator’s own constituency, decreased. In this approach, it is important that the chosen event can reveal the full value of the political connection. Fisman (2001) examines the stock price of Indonesian firms connected to President Suharto when rumors of his declining health were circulating in the media. The stock price of firms with stronger connection responded more

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negatively for a given rumor and the magnitude of the price response is larger in the episodes of more severe health threats. The author, however, acknowledges that these events cannot reflect the full value of connection because the rumors only increase the probability that Suharto would leave

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the office.

The effectiveness of event studies in measuring the value of political connection also depends on whether the event is expected or not and the number of firms affected by the event. Faccio and Parsely (2009) point out that the announcements of new political connection in Faccio (2006) were not completely unanticipated. The effect of the senator death in Roberts (1990) is also difficult to evaluate because of concurrent news of a crash of a passenger aircraft. Since sudden deaths of

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politicians are scarce, the number of firms connected to the deceased politicians in a given country is small. To overcome this sample size problem, Faccio and Parsley (2009) extend their search and identify 192 sudden deaths of politicians in 35 countries. They find that political connection is valuable; sudden deaths result in a fall in the stock price as well as a decline in the growth rates and

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credit access for the connected firms. In identifying political connection, however, the authors simply assume that all firms with headquarters located in the hometown of the top government

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officials are connected. Such assumption may overstate the number of firms with political connection.

3. Cronysim and corruption under Mubarak’s regime Mubarak became president of Egypt and chairman of the National Democratic Party (NDP) in 1981. His family and the ruling NDP had overarching influence in Egypt’s political and business landscapes. Gamal Mubarak, the president’s second son, was actively involved in politics. Ascending 3 This approach is also related to a body of work that investigates the effect of sudden death of corporate executives/directors on firm value (Johnson et al., 1985; Worrell et al., 1986; Slovin and Sushka, 1993, Hayes and Schaefer, 1999; Nguyen and Nielsen, 2010; and Salas, 2010).

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to the position of deputy secretary-general of the NDP in 2000, Gamal had since been considered the successor to his father’s power.4 President Mubarak exerted strong influence on the members of his cabinet and the parliament. In particular, although Ahmed Nazif was appointed prime minister in 2004, his cabinet was called “Gamal’s Cabinet” by the public as most of the new ministers were

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chosen from the NDP. Adly (2009) claims that businessmen’s access to patronage networks was linked to their membership in the NDP after they had won parliamentary seats either as NDP or independent candidates (who then joined the NDP after the election). Such practice enabled Mubarak’s NDP to secure a sweeping majority in the parliamentary elections. Mubarak himself was

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re-elected as president by over 99% of the votes in four consecutive terms in 1987, 1993, 1999 and 2005 (Elaasar, 2009).

Throughout Mubarak’s reign and particularly after economic liberalization in 1990, state-business

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relations were developing in tandem with cronyism. Key industries were dominated by a few large family business groups. Practices of cronyism such as murky privatization of state-owned enterprises and privileged access to public bank credit, public procurement and market positions given to politically-connected businessmen were pervasive (Adly, 2009). Retired Colonel Muhammad alGhjanam, a former director of legal research at the Egyptian Interior Ministry claimed that “the government has sold a great part of the public sector companies for less than a quarter of their value

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to businessmen working for Mubarak’s sons, or to foreign companies in return for huge commissions for Mubarak and his sons or other top officials” (Elaasar, 2009). Mubarak’s family and his ruling party were the focal point of cronyism and corruption in Egypt. Although other government officials might have provided privileges for businesses, they were likely

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to operate within Mubarak’s sphere of influence. This reduces the likelihood of overstating the

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extent and value of political connection to his regime. 4. Methodology and data

4.1. Event study

We follow a standard event-study method. The event is the collapse of Mubarak’s regime marked by his resignation on February 11, 2011. Since trading in the Egyptian stock exchange was suspended from January 28 to March 22, this whole period is taken as the event day and the first trading day when the exchange reopened as day +1. All the trading days in 2010 are used to estimate 4

See “In Egypt, Debate Grows over a Successor to Mubarak” in Time, November 13th 2009.

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the firms’ beta. In the main results, the cumulative abnormal return (CAR) of each firm is then calculated for different time windows surrounding the event, from day -5 to day +10. 5 As a robustness check, we also extend the windows up to day +57. We regress the firms’ CARs on their political connection status and some other important characteristics. If political connection

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conferred large net benefits to firms, then we expect the firms with connection to Mubarak’s regime registered statistically and economically significant lower market-adjusted return than the firms without connection did.

The Arab Spring brought down some governments in the region. It may appear that any of these

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regime changes can be used as an event study to effectively measure the value of political connection. The collapses that occurred earlier, however, are more suitable for our purpose since the outcomes were not anticipated. Although Egypt is the second country in the Arab Spring that had its

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government overthrown, it is chosen instead of Tunisia (the first country) because the Egyptian stock exchange is the largest and most active in the region. The stock market of Tunisia is far smaller in terms of market valuation, trading activities, and the number of stock listings. In 2010, the turnover rate in the Egyptian stock exchange was 55.9%; it was only 25.1% in the Tunisian exchange. There were 212 firms listed on the Egyptian exchange but only 56 firms on the Tunisian exchange. 23 Tunisian listed firms were banks and financial institutions that would have been dropped from

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the sample because they have different financial structure and industry regulations. Choosing Tunisia would then yield a very small sample, rendering the results unreliable. Moreover, Egypt is the most populous country in the Arab world and its economy is about 5 times larger than the Tunisian economy.

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One may argue that the political fallout in Egypt, given what had happened in Tunisia, was well anticipated by investors. Looking closely at the time line of the protest movement and other details

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suggests otherwise. President Mubarak was forced to resign only after 18 days of non-violent protest, the quickest outcome in the Arab Spring.6 In addition, given the absence of foreign interference and the longevity of Mubarak’s regime at that point, few investors could have predicted such an

5 Since the Egyptian stock exchange is not highly developed and it was closed for almost two months during the unrest, we extend the event windows to 10 days after the resumption of trading so that the stock price can fully reflect such a significant shock. Event studies looking at equity markets in developed countries also examine such time windows (e.g., Faccio and Parsley, 2009). 6 The Telegraph reported on 11th February, 2011: “Protests in the wake of Tunisia’s revolt have spread through much of the Arab world, but none gain traction as quickly as in Egypt.”

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outcome.7 Nevertheless, we formally test the possibility that outcome in Egypt was anticipated and whether it would affect our main results. For this purpose, we also look at the CARs of the same Egyptian firms around the date President Zine al-Abidine Ben Ali fled Tunisia. Even if the collapse of the Mubarak was expected by some investors, our results would unlikely

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be biased. The Egyptian stock exchange was shut down on 28 January, only a few days after the protest started in Egypt on 25 January. Since some of the event windows under consideration, for example the [-5,+10] window, cover the trading days in the gap between these two dates, our results can account for the effect of anticipation on the firms’ stock valuation.

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The political upheavals taking place in other countries after Egypt is less suitable for our study purpose. In some of these countries, equity markets are very small and underdeveloped; others, such as Yemen, did not have a stock market at the time. Moreover, after Egypt the political movement

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turned into a civil war that lasted for months before the incumbent leader was dislodged from power (e.g., Libya) or remained unresolved after more than one year of conflict (e.g., Syria), thereby giving investors ample time to incorporate their expectations into the stock prices.

4.2. Data on firm’s connection to Mubarak

We identify the firms’ connection status as of the end of 2010, before the outbreak of the protest

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in Egypt in early 2011. A company is defined to be politically connected to Mubarak’s regime if at least one of the large shareholders is President Mubarak, or his family member, or a close associate of Mubarak or his family members. Large shareholders are those entities that directly or indirectly control more than 10% of the company’s shares (Faccio and Lang, 2002; Faccio, 2006). We consider

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these specific family members of the president: parents, wife, siblings, children, and children-in-law. Close associates are shareholders known among the local or international media to be friends or

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cronies of the president or his family members. For example, Rasekh Mohamed Magdy is the fatherin-law of Alaa Mubarak, the president’s eldest son. Magdy is a major shareholder of Six of October Development & Investment (SODIC); it is thus a politically connected firm. Factiva is one of the data sources used to identify the names of businessmen connected to the president’s family. It is an electronic database archiving international and local news publications such as The Economist, Forbes, Fortunes, Financial Times, The Egyptian Gazette, and Daily News Egypt. We search Factiva using a combination of “Mubarak” and a keyword describing some 7

In contrast, the protest turned into full-scale domestic armed conflict when it spread to Libya and Syria. The involvement of Western military coalitions also made the outcome more predictable.

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relationship such as “friend”, “buddy”, “inner circle”, “partner”, “crony”, “associate”, “close associate”, “close to”. The search results are then parsed to confirm the names of the associates and the nature of their relationship with President Mubarak. As an example, The Economist reported on 10 February 2012, “Ahmed Ezz, an Egyptian steel magnate and friend of Gamal Mubrak, son of the

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country’s ousted president …” We deem Ahmed Ezz a close associate of the Mubarak family and the corporations of which he is a major shareholder as politically connected. In Factiva, we also search for reports on corruption charges or court cases involving the president or his family members after he lost power. For example, Egypt Daily News reported in June 2011 that Illicit

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Gains Authority summoned business executive Hisham Talaat Moustafa for questioning about privileges exchanged between him and Alaa Mubarak, the president’s first son.

The above method may identify only the biggest or most well-known connected firms. Moreover,

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the media could have wrongly attributed poor stock price performance of firms after Mubarak’s fall to connection to his regime. To avoid this potential bias and achieve better data coverage we resort to other sources published before the 2011 collapse of Mubarak’s regime. Although our approach to define and identify connected firms is different from and independent of that in a subsequent study by Acemoglu et al. (2014), the percentage of firms found connected to Mubarak’s regime in our study is similar.

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King (2009) and Elaasar (2009) compose a complementary source on political connection data. These publications provide information on cronyism in Egypt. King (2009) contains detailed description of rent-seeking activities of Gamal Mubarak, the president’s second son, through several important governmental organizations and prominent business partnerships in Egypt. It also

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identifies the franchises and companies that the president’s family members had gained stake in exchange for arranging non-collateral loans from state banks for these businesses. Besides discussing

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the corruption of the president’s family members, Elaasar (2009) also provides the names of their business partners, thereby revealing business ownership information not available elsewhere. As an example, “Of the companies in which Gamal and Alaa have shares are: Marlborough and Chilist chain restaurant owned by Mansour family, El-Ezz Steel Industries owned by Ahamd Ezz …” (Elaasar, 2009).

Elaasar (2009) notes that major media outlets in Egypt were controlled and censored by Mubarak government. Some connections or dealings between the president’s family members and businesses might have never been disclosed in the mainstream media. Therefore, we also examine publications by Kifaya (the Egyptian Movement for Change) and the Muslim Brotherhood, two political 11

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opposition organizations in Egypt at the time, to gain further insight based on their local informational advantage.8 Specifically, we search the text in “Corruption in Egypt: the Black Cloud is Not Disappearing”, a report by Kifaya released in 2006, and “Team of Next Egyptian Dictator”, a report released by the Muslim Brotherhood in 2007. The two reports contain a list of names of business

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owners who are loyal to Mubarak’s regime as well as their appointments on various government policy committees.

We cross reference the names of the businessmen identified by the above methods and most of them are confirmed by more than two independent sources, of which at least one was published

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before the collapse of Mubarak’s regime. These names are then matched with the names of large shareholders of listed Egyptian companies at the end of 2010 provided by FactSet, Bloomberg, Coface Egypt Financial Yearbook as well as annual reports and company websites. Coface Egypt

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Financial Yearbook also lists business group affiliation for many listed firms. The names of the politically-connected people and companies of which they are major shareholders as well as the identifying sources are listed in the Appendix.

We also examine firms’ ownership data to see whether the state is one of the shareholders. State ownership is treated as a separate form of political capital. By including a state-ownership indicator, we can also examine effects of interaction between connections to the state and a ruling political

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family. Firm’s accounting and stock price data are obtained primarily from FactSet and with some supplement from Bloomberg.

In the following regression analyses, we always control for some important firm characteristics, including industry dummies. Since ordinary least squares (OLS) standard errors may exhibit

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downward bias under event-date clustering, the main results presented here are obtained by generalized least squares (GLS) method via the use of estimated covariance matrix of residual

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returns. As robustness check, we also resort to bootstrapping to obtain the standard errors; the results are very similar.9

Among 212 firms listed in the Egyptian stock exchange in 2010, we find 33 firms (including 4 financial institutions) with connection to Mubarak.10 We have complete ownership information only

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On June 24, 2012, Mohamed Morsi, a candidate backed by the Muslim Brotherhood, won the election and became the president of Egypt. 9 The results obtained from bootstrapping and OLS method are available upon request. 10 The number of politically-connected firms accounts for 15.6% of listed firms in Egypt; the corresponding number found in Faccio (2006) for Indonesia is 22.1%, Malaysia 19.8%, and Russia 20%.

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for 159 firms. Out of this number, 16 financial institutions are excluded. 10 more firms are dropped because of missing accounting or insufficient stock-price data.11 Our final sample contains 133 firms. 12 In Table 1, we classify the firms according to their connection to Mubarak and state ownership. 76 of 133 firms in our sample have the state as one of

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their shareholders; 13 of them are also connected with Mubarak. Among the 57 firms that have no state-ownership, 12 are connected to Mubarak. It does not appear that the probability of having state ownership systematically affects the probability of having connection to Mubarak.13

Table 2 contains the average value of some key financial variables of the firms in our sample at

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the end of 2010. In Panel A, 25 firms connected to Mubarak, regardless of their state ownership, are far larger than unconnected firms in terms of market capitalization (7,224.8 million versus 1,480.6 million Egyptian pounds), have greater leverage (debt-to-asset ratios are 0.25 and 0.10, respectively),

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but are younger (26.4 versus 39.2 years) and generate lower return on equity (11.06 versus 13.15%). In Panel B, we put firms into four groups to take into account state ownership in addition to connection to Mubarak, firms with only tie to Mubarak (Mubarak*NoState) is also much larger than firms in the other three groups. Among the firms without tie to Mubarak, those with state ownership (NoMubarak*State) are larger than those without state ownership (NoMubara*NoState) in terms of market capitalization (1,819.9 million versus 1,005.5 million Egyptian pounds), are older

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(42.3 versus 35 years), have lower price-to-book ratio (2.02 versus 2.88), but take on less debt (0.08 versus 0.13) and generate higher return on equity (14.16 versus 11.72%). 5. Empirical Results

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5.1. Value of political connection

The firm beta is estimated based on a single factor model where the MSCI Arabian Markets (ex

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Saudi Arabia) index represents the market return. 14 Since politically connected firms have large market capitalization, their stock price movements can dominate even the broadest Egyptian stock market index. Using a national stock market index likely leads to under-estimation of the value political connection. In the sensitivity analysis, the results based on the Egyptian stock market index support this argument.

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For some of these firms, there was no stock price movement in the estimation period. This sample represents about 63% of all Egyptian listed firms and 70% of total market capitalization in 2010. 13 From Table 1, the χ2 statistic of the null hypothesis of independence between the two political ties is 0.319; its p-value is 0.572. 14 The MSCI Arabian Markets (ex Saudi Arabia) index covers United Arab Emirates, Kuwait, Qatar, Bahrain, Oman, Egypt, Jordan, Morocco, Tunisia and Lebanon. 12

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Table 3 shows univariate tests of the CARs of Egyptian firms with and without connection to Mubarak’s regime (regardless of state ownership) for the following windows surrounding its collapse: [-1,+1], [-1, +2],[-1,+5], [-2,+8], [-1,+10], and [-5,+10]. Both groups of firms lost around 10% in the [-1,+1] two-day window and there is no statistically difference between them. This is not surprising

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since stock prices in the first trading day had to reflect so much information accumulated during the 3-week shut down of the Egyptian market. However, the cumulative abnormal return (CAR) of the unconnected firms improved on trading day +2, including rising to a positive 5%, whereas the CAR of the connected firms continued to worsen, dropping to a negative 16% in the [-1,+10] eleven-day

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window. Starting on the second trading day, the connected firms registered much lower marketadjusted returns than unconnected firms; and the difference in the CARs of the two groups, ranging from 6.5 percentage points in [-1, +2] window to 21.4 points in [-1, +10] window, is statistically

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significant at 1% level.

Connected firms may suffer greater loss due to fundamentals that are unrelated to their political connection status. In the following analysis, we control for some important firm characteristics by regressing the CARs on firm age (number of years from the firm’s establishment to the end of 2010), the natural logarithm of the firm’s market capitalization, return on equity, price-to-book ratio, leverage (ratio of debt to assets), and industry classification based on 2010 data in addition to included in the parentheses.

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political connection indicators. The regression coefficients are estimated by GLS method; p-value is We perform the regression analysis for two sets of political connection indicators. In the first set, we focus on the effect of connection to Mubarak without explicit consideration to state ownership.

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To that end, we employ two dummy variables: Mubarak^ indicates the firm has connection to Mubarak family (regardless whether the state is also a shareholder); and State^ indicates state

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ownership regardless of whether the firm is connected to Mubarak family. In the second set, we replace these two dummy variables with three interaction terms to separate the firms into four groups according to their political ties. The binary indicator Mubarak*NoState equals 1 if a firm is connected to Mubarak but has no state ownership and 0 otherwise; Mubarak*State equals 1 if a firm has both connection to Mubarak and state ownership and 0 otherwise; and NoMubarak*State equals 1 if a firm has state ownership but no connection to Mubarak and 0 otherwise. The base group is the firms that have neither of these two ties.

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In Panel A of Table 4, the coefficient on the variable Mubarak^ is negative for all event windows; it is also statistically significant at 1% level except in the [-1,+1] window.15 The estimated value of this coefficient indicates that, controlling for important firm characteristics, connected firms experienced a much lower return than unconnected firms starting in the second trading day,

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reaching 15.4 percentage points lower in the [-2,+8] window to 17.4 points lower in the [-1,+10] window. The average value of this coefficient in the event windows after the second trading day is 16.5 percentage points.

The decline of the stock price of the Egyptian firms that just lost connection to the president

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shown here is very large. In fact, the cumulative loss of the 25 connected firms in our sample for the [-5,+10] window is 39,728 million Egyptian pounds; it accounts for 52% of the cumulative loss of all 212 firms listed on the Egyptian stock exchange in the same time window and 8.3% of the whole

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Egyptian stock market capitalization (478,223 million pounds) evaluated immediately before the political outbreak.16 The cumulative abnormal loss in the [-5,+10] window for these 25 firms is 32,905 million Egyptian pounds, about 18.9% of their combined market capitalization.17 Thus, connection to Mubarak had brought enormous value to the firms.

State ownership, on the other hand, is positively correlated with the firm return. The coefficient of the dummy variable State^ is positive in all event windows; it is also significant at 5%, or lower,

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level in the [-1,+2], [-1,+5], [-2,+8], and [-5,+10] windows. The estimated value of this coefficient suggests that firms with state ownership earn respectively 3.633, 6.831, 5.746, and 5.491 percentage points higher than those without state ownership. Since there are firms in our sample that are both connected to the president and owned by the state, this implies that the coefficient on the Mubarak^

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discussed above may not reveal the full value of the political patronage of Mubarak’s regime. As state ownership represents a kind of political capital that could outlast the incumbent politician or

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his regime, it warrants further exploration of the pure effect of these political ties as well their interactive effects on the firms’ equity return. 15 The value of adjusted R-squared more than doubles from 0.146 in the [-1,+1] window to above 0.3 in the event windows longer than two trading days. 16 This value is measured as of January 21, 2011, after which stock prices are included the event window [-5, +10]. As a reference, the market capitalization of the whole exchange was 480,519 million Egyptian pounds on December 13, 2010, immediately before the protest started in Tunisia. 17 The combined market capitalization of these 25 firms on December 13, 2010 (immediately prior to the political outbreak in Tunisia) and January 21, 2011 (immediately prior to the political outbreak in Egypt) was 175,471 and 174,558 million Egyptian pounds. Note that there was little change in the market capitalization of the whole Egyptian exchange and the 25 connected firms between the political outbreak in Tunisia and Egypt. It can be taken as evidence supporting our claim that the demise of Mubarak’s regime had not been anticipated.

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In Panel B of Table 4, the firms connected only to Mubarak suffered the worst return. The estimated coefficient on Mubarak*NoState shows that the market-adjusted return of these firms, compared to those in the base group, is 4.7, 9.0, 23.6, 26.2, 27.3, and 28.9 percentage points lower in the [-1,+1], [1,+2], [-1,+5], [-2,+8], [-1,+10], and [-5,+10] event windows, respectively; they are also

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statistically significant. The average value of the estimates of this coefficient for the event windows after the second trading day is 26.5%. The cumulative abnormal loss in the [-5,+10] window for these 12 firms is 22,952 million Egyptian pounds, about 22.4% of their combined market capitalization. Although the coefficient of Mubarak*State is negative, except in the [-1,+1] window, it is

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statistically significant only in the [-1,+10] window. Therefore, firms having both connection to Mubarak and state ownership did not seem to fare worse than those without any ties around the time the president lost power. Considering both panels in Table 4, state ownership appears to

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significantly mitigate the negative effect of losing political capital vested in Mubarak’s regime. State ownership per se is not valued by investors. The coefficient of NoMubarak*State changes sign in different event windows and is not statistically significant in any of them. This result is consistent with the findings in Sun et al. (2011) who suggest that the potential value of ownership ties to the local government for firms in China needs to be realized through intensive political networking at the personal level.

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The above regressions suggest that connection to Mubarak’s regime had conferred tremendous value to the firms, more than one-fifth of their market value when measured in a short period up to 15 trading days around the political shock.

It is possible that the severe fall in the stock prices of Mubarak-connected firms in the above

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event windows is a result of a combination of (a) market over-reaction, (b) a massive economy-wide capital flight as the turmoil was unfolding in Egypt, and (c) divestment of equity stakes in those

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firms by major shareholders. If confounding factors (a) and (b) are driving the results in Table 4, then we expect the above results would not hold for longer event windows in which the investors have even more time to contemplate the news. Therefore, we extend our analysis for event windows up to trading days +57, which coincides with the end of June 2011, more than 3.5 months after Mubarak’s resignation. We plot the CARs of the four groups of firms for all the windows between trading days -5 and +57 in Figure 1 and present the t-statistic of the test of the difference between these groups’ CARs for [-1,+1], [-1,+2], [-1,+5], [-2,+8], [-1,+10], [-5,+10], [-5,+21], [-1,+39], [1,+57] windows in Table 5. The stock performance of the firms connected only to Mubarak, in fact, continued to deteriorate, reaching the bottom of -51.7% on day +29 before stabilizing to around -40% 16

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in the following month. Column (1) in Table 5 shows that the difference in CARs of these firms and those without any political ties is statistically significant in all event windows from the second trading day onward. In contrast, the two groups of firms with and without state ownership that are unconnected to

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Mubarak performed vastly better; as shown in Figure 1, their stock price recovered in the second trading day and continued to improve thereafter. Incidentally, their CARs turned positive also around day +29. Columns (2) and (3) in Table 5 show that there is not much evidence to suggest the difference in CARs of these two groups and the base group is significant.

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We can also see the benefit of state ownership by examining the two lower lines in Figure 1 and Column (4) in Table 5. Although both groups of firms are connected to Mubarak and performed the worst in stock return, the group with state ownership fared much better; the difference in CARs of

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these two groups is statistically significant at 5% level in all event windows.

These observations are confirmed by regressions we repeat for longer event windows [-5,+21], [5,+39], [-5,+57] in Table 6. The same set of other firm characteristics is also included in the regressions but they are not shown to save space. The coefficient on Mubarak^ and Mubarak*NoState is negative and statistically significant in all three extended event windows at 1% level; its magnitude is larger, indicating that the stock price of the firms connected to Mubarak suffered even larger loss

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beyond the shorter event windows considered earlier. Examining the extended event windows shows that the reduction in the market value of Mubarak-connected firms we estimate in the main regressions is the result of the loss of connection to Mubarak’s regime; it is not driven by market overreaction or some economy-wide phenomenon that are unrelated to political connection.

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To rule out confounding factor (c), i.e., major shareholders’ divestment, we examine the financial transaction records of the connected firms in the Factset ownership database; there was no block

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sale of equity by any major shareholders nor major ownership change in the event windows examined in the main regressions (Table 4). A subsequent study by Acemoglu et al. (2014) also confirms the absence of major shareholder’s activities in this period. Only in May and June in 2011 were there sales of equity stake by connected major shareholders in 7 firms.18 Figure 1 shows that the firms connected to Mubarak suffered most of their worst return in the first trading month before the major shareholders’ equity sale in May and June 2011, during which their stock returns actually recovered slightly and were trading in a much narrower band of -50% to -40%. The divergence in the returns between the firms with and without connection to Mubarak is most pronounced in the 18

These shareholders re-purchased their stakes in 6 of these firms in the second half of 2011 and in 2012.

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first month after the stock market reopened. In the next 2 months, the gap seemed to stabilize and CARs of all four groups of firms were positively correlated. These robustness checks support our earlier conclusion that connection to Mubarak itself is very valuable to the firms. The loss of this political capital, which had probably been cultivated over

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Mubarak’s long reign, was a tremendous shock to these firms; their equity valuation never recovered in the time windows up to 3.5 months after the event. 19

We also perform a variety of other sensitivity analyses to ensure the robustness of the above results. The results are discussed in Section 5. Now we turn to some possible mechanisms that give

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rise to the value of the connection to Mubarak’s regime.

5.2. Benefits of political connection

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5.2.1. Lower financial constraint

One plausible channel in which firms benefit from political connection is that they have preferential access to external funding via implicit government guarantee or directed credit from affiliated banks or state-owned banks. These firms would face lower financial constraint (Li et al., 2008; Chow et al., 2012; Su and Fung, 2013; Houston et al., 2014). Firth et al. (2009) also find that firms having state as minority shareholder have better access to bank finance. Drawing on Chan et al.

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(2012a) and Konings et al. (2003), we adopt the following regression specification to examine whether Egyptian firms exhibit financial constraint and how it is different with respect to their political connection before Mubarak lost power:

(1)

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I C  S   = α0 + α1   + α2   + ε it ,  K it  K it  K it

where I/K is investment-to-capital ratio, C/K cash-to-capital ratio, and S/K sales-capital ratio of

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firm i . Investment is defined as the capital expenditure during the period t ; cash is the cash19 With benefits of hindsight, one may be concerned about the possibility of political retribution exacted on firms connected to Mubarak after his fall. If market participants had over-reacted at that time because of this possibility, the equity of Mubarak-connected firms would have been over-sold, raising the possibility of over-estimation of the value of political connection. A closer examination of the political landscape of Egypt then and now suggests that this was not the case. First, our main analysis focuses on very short event windows, only up to 10 trading days after the event. During this period of time, when the military just took over the power from Mubarak, no one at that time could have predicted which political faction would prevail in the future. As a testament of the precariousness of Egypt’s political landscape during that turmoil, the presidential election took place more than one year after Mubarak’s fall. Muhammad Morsi, the candidate of the main political opposition party Muslim Brotherhood, won the June 2012 election with a narrow margin of 51.7 percent; Morsi, however, was removed from the power by a military coup one year later. In the absence of major shareholders’ activities in March 2011, as discussed above, retail investors would have been hard-pressed at that time to think that the military, a steadfast supporter of Mubarak’s 30-year regime, was going to take deliberate measures to punish Mubarak-connection firms. We thank the anonymous referee’s comment that prompts this discussion.

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equivalent balance at the beginning of period t; sales is the net sales during period t; and capital is the value of property, plant and equipment at the beginning of period t. Modigliani and Miller (1958) suggest that, under perfect capital market, financing choices do not matter and firm investment would not depend on the availability of internal funds. In practice, such

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market imperfections as asymmetric information and agency problems raise the cost of external funds for firms. In equation (1), when α1 is positive and statistically significant, firms face financial constraint since their investment is sensitive to the amount of cash on hand. To examine the effect of political connection, we interact political indicators with C/K as in equation (2).

(2)

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I  C  C  C    = α 0 + α 1   + α 2   Mubarak * NoState + α 3   Mubarak * State  K  it  K  it  K  it  K it , C  + α 4   NoMubarak * State + ψ X it + ε it  K it

where vector X includes the logarithm of firm market capitalization, ln(MktCap), to account for firm size,20 debt-to-capital (D/K ) ratio for leverage, sales-to-capital ratio (S/K) for business revenue, ∆S/K for growth potential, and industry dummies. For robustness check, we also replace ∆S/K ratio with Tobin’s Q.

Accounting data of Egyptian firms before 2006 are very limited; therefore, we use 2006-2011

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data in the estimation of equation (2).21 The results in Table 7 are obtained based on fixed-effect panel estimator to control for unobserved individual effects. In addition, we use two lags of the cash variable as its own instruments to account for possible endogeneity of cash holdings. Investment is positively associated with cash holdings in the firms without connection to

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Mubarak and state-ownership. In column (1), the coefficient on cash (α1 = 2.466) is significant at 1% level, indicating these firms encounter financial constraint in the sample period. Relative to the base

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group, firms with connection to Mubarak display much lower financial constraint (α2 = -1.633 and significant). Other interaction terms in equation (2) are negative but not statistically significant. When we replace ∆S/K with Tobin’s Q in column (2), there is evidence of lower financial constraint for firms connection to Mubarak (α2 = -1.919, significant at 5%) and firms with state ownership (α4 = -2.186, significant at 5%).

20 We thank the anonymous referee for suggesting that firm size be included in equation (2); this suggestion is supported by, for example, Chan et al. (2012b) who show that larger firms exhibit lower financing constraint than their counterparts of smaller size. Note that the results, available upon request, are very similar when value of total assets, instead of market capitalization, is used for size. 21 As a robustness check, we drop the year 2011 to avoid the effect of the Egyptian revolution in early 2011 and re-run the regression. The results based on 2006-2010 sample, available upon request, are very similar.

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To check the robustness of this finding, we also perform difference-in-difference (DID) analysis to account for other unobserved firm characteristics that may affect the financing constraint.22 For this purpose, we use data sample covering 2008 to 2015, which includes four years under Mubarak’s rule (2008-2011) and four years after his fall (2012-2015). Let dummy variable Post denote the

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second sub-period. The DID regressions include interaction terms between Post and all other explanatory variables in equation (2). The results are shown in columns (3) and (4) of Table 7.

In column (3), the estimated coefficients indicate that during Mubarak’s regime, firms without connection to Mubarak and state-ownership faced financial constraint (α1 = 0.294 and significant at

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1% level) whereas firms with political capital experienced much lower constraint. For example, the coefficient of (C/K)Mubarak*NoState is -0.687 and significant at 1% level, indicating considerable reduction in financial constraint for Mubarak-connected firms. This benefit, however, vanished after

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Mubarak lost power. The coefficient of the interaction term (C/K)Mubarak*NoState*Post is positive instead and significant, indicating that firms connected to Mubarak no longer faced lower financial constraint than firms without any connection after he lost power. The joint test of the linear combination of (C/K)Mubarak*NoState and (C/K)Mubarak*NoState*Post, that is (A1+A2) in Table 7, also shows that

the financing constraint encountered by Mubarak-connected firms is not

significantly different from that encountered by non-connected firms after the regime collapsed. In

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column (4), we replace ∆S/K with Tobin’s Q; the results are very similar. The results obtained here are consistent with the finding of positive and significant value of political connection in Section 5.1. Both political ties seem to benefit firms and these firms face the lowest financial constraint. The DID analysis suggests that the benefit of lower investment

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heterogeneity.

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constraint arises from political connection, and not to firm size or other unobserved firm

5.2.2. Greater propping during the 2008 financial crisis Apart from reduction in financing constraint, equity propping is another potential benefit of political connection. Friedman et al. (2003) develop a theoretical model illustrating that if substantial shareholders tunnel from their corporations during a normal period, they are more likely to prop up the firms during financial distress. Higher level of debt serves to commit the substantial shareholders to propping. Although there are many studies on tunneling, few have examined propping. Cheung et

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We thank the anonymous referee for also suggesting DID analysis.

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al. (2006) and Peng et al. (2011) using data on, respectively, Hong Kong and China stock markets, find evidence supporting the debt-induced propping hypothesis. We now explore whether propping exists among politically-connected firm at the peak of the 2008 financial crisis. First, as in Friedman et al. (2003), we examine whether there is a relationship

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between leverage and political ties, while controlling for firm size, profitability, and growth potential based on the following regression:

leverage i = β 0 + β1 Mubarak ^i + β 2 State ^i + β 3 ln( Assets )i + β 4 ROEi + β 5 AssetGrowthi + ε i , (3)

where Leverage is measured as total debt to assets, and Mubarak^ and State^ are binary indicators as

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defined before. Industry and year dummies are also included. The sample period is 2006-2010.

The results are reported in Table 8. The coefficient on Mubarak^ and State^ is 14.907 and -9.370, respectively; both are significant at 1% level. Firms with connection to Mubarak take on more debt

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whereas firms with state ownership have less debt. The coefficients on the other three firm characteristics have the expected sign and two of them are significant at 1% level. As noted by Friedman et al. (2003), propping is hard to observe especially under weak investor protection and poor corporate governance in emerging markets. They assume that market discerns the behavior of the substantial shareholders and rely on stock price performance during the 1997 Asian financial crisis to reveal propping. Since debt is considered a tool committing substantial

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shareholders to propping, we follow Friedman et al. (2003) and examine the relationship between the stock returns (return) and debt level (leverage) in the following regression to test whether there is support for equity price of politically-connected firms. (4)

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return i = γ 0 + γ 1leverage i + γ 2 ( leverage * Mubarak ^)i + γ 3 ( leverage * State ^)i + θ K i + ε i

The coefficients on leverage and its interaction with political indicators are our main interest as they reveals debt-induced propping. Vector K consists of the same variables controlling for firm size,

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profit, and growth as in equation (3). These variables are measured at the beginning of the sample period under consideration. Here, we compare Egyptian firms’ stock returns around different significant stock market downturns before and after Mubarak’s fall. The results of regression equation (4) are presented in Table 9a. In column (1), the dependent variable is stock returns between Sept 1 and Oct 31 in 2008, a period surrounding the collapse of Lehman Brothers, which marks the peak of the turmoil in the global financial system. Egypt’s stock market index dropped around 40 percent in these two months. During this period, when Mubarak still ruled Egypt, there is evidence of equity propping for firms to him since the coefficient of 21

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(leverage*Mubarak^) is positive (0.608) and significant. No such evidence is found for firms with state ownership. We next examine the stock returns of the same firms during some market downturns after Mubarak lost power in columns (2)-(5) in Table 9a. In the post-Mubarak era, Egypt’s stock market

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sustained loss only in 2015; the cumulative loss of more than 30 percent in this year was composed of several downturns: Feb 1 – May 10 (column 2, this period alone accounts for half of the yearround loss), July 26 – Aug 23 (column 3), and Nov 1 – Nov 22 (column 4). Column (5) contains the results for stock returns for all of 2015 (Jan 1 – Dec 31). Compared to column (1), the coefficient of

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(leverage*Mubarak^) in columns (2)–(5) is much smaller (0.032 to 0.156) and statistically insignificant. This suggests absence of equity propping for firms connected to Mubarak after he lost power. For further robustness check, we perform DID analysis in Table 9b. We pool the data from two

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periods: Sept 1 – Oct 31, 2008 (under Mubarak’s rule) and Feb 1 – May 10, 2015 (post-Mubarak era). Let dummy variable Post denote the second period. The same control variables in Table 9a are also included here. In column (1), the coefficient of (leverage*Mubarak^) is positive (0.800) and statistically significant; but the coefficient of (leverage*Mubarak^*Post) is negative (-0.975) and significant. This confirms the finding in Table 9a: there was equity propping during market downturn for firms connected to Mubarak when he was in power, but this benefit disappeared after his fall. The joint

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test of linear combination of (leverage*Mubarak^) and (leverage*Mubarak^*Post), that is (a1+a2) in Table 9b, is not significant either, suggesting that the extent of equity propping for Mubarakconnected firms is not different from that of non-connected firms after his power collapsed. In column (2), the results are similar after we account explicitly for state ownership.

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In short, the results on equity propping (Tables 9a and 9b) are consistent with the hypothesis put forth in Friedman et al. (2003). Firms with connection to Mubarak had more leverage for the sample

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period of 2006-2010 and received greater propping during the peak of the 2008 global financial crisis. Those with state-ownership had less debt and experienced significantly lower propping in the same period.

In addition, as the model in Friedman et al. (2003) indicates that debt-induced propping during financial distress is symmetric to tunneling in normal periods, our results suggest that tunneling activities may vary among firms with different types of political capital. Since greater debt-induced propping is found among firms with connection to Mubarak, debt can play a role in corporate governance among firms with a “personal” type of political connection.

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6. Sensitivity analysis

6.1. Are the stock returns of firms connected to Mubarak in general more sensitive to bad news? If the firms connected to Mubarak’s regime are more sensitive to shocks, then their stock price

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simply reacts more to such a significant event and not because of the loss of political connection. We examine the stock price reaction of the Egyptian firms in our sample to the unrest in Tunisia, which ignited and brought down the first government in the Arab Spring. We calculate the CARs of the same Egyptian firms around the date Tunisian President Zine al-Abidine Ben Ali fled from

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power (January 14, 2011) and rerun the previous regressions. We do not consider more than 5 trading days after the Tunisian event to avoid overlapping with the time windows surrounding the collapse of Mubarak’s regime.

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In panel A of Table 10, the coefficient of Mubarak^ is positive, albeit statistically insignificant, for all the event windows. This suggests that the Egyptian firms connected to Mubarak’s regime, regardless of whether the state is a shareholder, did not do worse in terms of stock return than the unconnected firms in response to the political event in Tunisia. In panel B, the coefficient of Mubarak*NoState changes sign in different time windows and is not statistically different from zero. This further indicates that there is no difference between the CARs of the firms with pure

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connection to Mubarak and those of the firms in the base group. The results in Table 10 confirm that the stock returns of Egyptian firms with connection to Mubarak shown in Table 4 were indeed driven by the loss of political capital. Moreover, there is some evidence that Egyptian firms with state ownership had higher equity returns than those without state ownership when the political

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shock occurred in Tunisia.

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6.2. Was the political outcome in Egypt predicted by investors? The above analysis also confirms that investors did not anticipate the collapse of Mubarak’s regime. The stock price of the Egyptian firms connected to Mubarak did not react differently from that of unconnected firms; the coefficient on Mubarak^ in Table 10 is 0.129 and statistically insignificant in the [-5,+5] window surrounding the Tunisian event. Immediately after that, however, in the trading days surrounding the Egyptian even, the CAR of the firms connected to Mubarak turned significantly lower; the coefficient on Mubarak^ in Table 4 is -16.603 in the [-5,+10] window.

6.3. Post-event estimation window 23

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If a collapse of a long-standing political establishment altered firms’ systematic risk, the firm beta estimated with pre-event trading days might not adequately capture the value of political connection. To account for this possibility, we re-estimate the beta based on the trading days in the one-year period after Mubarak’s fall (up to June 13, 2012) and before Mohammed Morsi’s win in the Egypt’s

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presidential election. The firms’ market-adjusted stock returns are then recalculated based on the new beta.

The regression results in Table 11 are qualitatively similar to those obtained under the pre-event estimation window. In panel A, the coefficient of Mubarak^ is 3.718 but it is not significant in the [-

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1,+1] window. As more trading days passed, however, the CARs of the firms connected to Mubarak’s regime registered about 10 percentage points lower than those of unconnected firms. The return differentials in the event windows longer than 2 trading days are statistically significant. In

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panel B, the stock return of the firms with only connection to Mubarak is about 17.21 percentage points lower than that of the firms without any political ties in the event windows longer than 2 trading days.

6.4. Using Egyptian stock market index as a measure of systematic risk As a final robustness check on the estimation of the value of political connection, we re-estimate

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the firms’ beta based on the Egyptian stock index (EGX), calculate the firms’ CARs, and then re-run the regressions. The results in Table 12 are qualitatively similar to those obtained based on the regional MSCI Arabian Markets (ex Saudi Arabia) index. Firms connected to Mubarak suffered heavy loss when his regime collapsed. The loss is reduced if one of the shareholders is the state.

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A closer look at the magnitude of the coefficient on some key variables confirms our argument that using the Egyptian stock market as a measure of systematic risk would result in an under-

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estimation of the value of the firms’ connection to Mubarak. In Table 12, the coefficient on the indicator Mubarak^, although negative across all event windows, is consistently smaller in absolute value than what is obtained under the broader regional market index. The summary statistics in Table 2 show that firms connected to Mubarak are almost five times larger in market capitalization than unconnected firms. These connected firms’ stock price movement had an overwhelming effect on the country’s stock market during that politically tumultuous time. Similar observations are made when we classify the firms into four groups according to their connection to Mubarak and state ownership in panel B.

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7. Conclusion Endogeneity is a key challenge encountered in empirical work involving identification and estimation of the value of firms’ political connection. In this paper, we overcome this issue by examining the stock return differential of Egyptian firms with and without connection to President

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Mubarak’s regime when it collapsed. The longevity of this authoritarian regime and its sudden and absolute collapse contribute to an effective measure of the firms’ value of political connection in our analysis.

Notwithstanding the 30-year stretch of Mubarak regime, state-ownership and connection to his

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power network are perceived by investors to be separate types of political capitals. Connection to President Mubarak and his family members had brought large net positive value to Egyptian firms. When Mubarak lost power, the firms connected to his regime suffered a much heavier market-

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adjusted loss in stock price than the unconnected firms or firms with state-ownership only. The Mubarak-connected firms belonged to a few large family business groups that dominated industrial and commercial structure in Egypt. Many of these business magnates also held important posts in various policy-making government bodies and memberships in the ruling political party, the NDP, thereby creating a self-serving politics-business nexus. Undoubtedly, not all the results of the rent seeking activities showed up in the financial statements or were fully reflected in the stock price.

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Lower credit constraints during regular business operations and greater propping during the 2008 financial crisis identified in this paper are only two channels, among possibly many more, in which firms had received benefits from their connection to Mubarak’s regime. Our findings of value of political connection based on stock-market valuation, however, can be considered as a conservative

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estimate of the extent of economic rents and wealth distribution in the Mubarak-era Egypt.

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References: Acemoglu, D. & Robison, J. A. (2012). Why nations fail: The origins of power, prosperity and poverty. New York: Crown Publishers.

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Acemoglu, D., Tarek A. H., & Ahmed T. (2014). The power of the street: Evidence from Egypt's Arab Spring. National Bureau of Economic Research Working Paper No. 20665. Adly, A.I. (2009). Politically-embedded cronyism: the case of post-liberalization Egypt. Business and Politics, 11, 1-25.

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Blau, B. M., Brough, T. J., & Thomas, D. W. (2013). Corporate lobbying, political connections, and the bailout of banks. Journal of Banking & Finance, 37, 3007-3017. Boubakri, N., Cosset, J. C., & Saffar, W. (2008). Political connections of newly privatized firms. Journal of Corporate Finance, 14, 654-673.

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Chan, K.S., Dang, V. Q.T., & Yan, Isabel K.M., (2012a). Chinese firms’ political connection, ownership and financing constraints. Economics Letters, 115, 164-167. Chan, K.S., Dang, V. Q.T., & Yan, Isabel K.M., (2012b). Financial Reform and financing constraints: Some evidence from listed Chinese firms. China Economic Review, 23, 482-497. Chen, C. J., Li, Z., Su, X., & Sun, Z. (2011). Rent-seeking incentives, corporate political connections, and the control structure of private firms: Chinese evidence. Journal of Corporate Finance, 17, 229-243.

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Cheung, Y. L., Rau, P. R., & Stouraitis, A. (2006). Tunneling, propping, and expropriation: Evidence from connected party transactions in Hong Kong. Journal of Financial Economics, 82, 343-386. Chow, C. K. W., Fung, M. K. Y., Lam, K. C. K., & Sami, H. (2012). Investment opportunity set, political connection. Review of Quantitative Finance and Accounting, 38, 367-389.

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Elaasar, A. (2009). The last Pharaoh – Mubarak and the uncertain future of Egypt in the volatile Mid East. Boston: Beacon Press.

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Faccio, M. (2006). Politically connected firms. American Economic Review, 96, 369-386. Faccio, M. & Lang, L.H.P. (2002). The ultimate ownership of western European corporations. Journal of Financial Economics, 65, 365-395. Faccio, M., Masulis, R.W. & McConnell, J.J. (2006). Political connections and corporate bailouts. Journal of Finance, 61, 2597-2635. Faccio, M. & Parsley D. C. (2009). Sudden deaths: taking stocks of geographic ties. Journal of Financial and Quantitative Analysis, 44, 683-718.

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Fan, J.P.H., Wong, T.J. & Zhang, T. (2007). Politically connected CEOs, corporate governance and post-IPO performance of China’s newly partially privatized firms. Journal of Financial Economics, 84, 330-357.

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Friedman, E., Johnson, S., & Mitton, T. (2003). Propping and tunneling. Journal of Comparative Economics, 31, 732-750.

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Johnson, S. & Mitton, T. (2003). Cronyism and capital controls: evidence from Malaysia. Journal of Financial Economics, 67, 351-382. Kang, J.K. & Zhang, L. (2011). From backroom to boardroom: Role of government directors in corporate governance and firm performance. http://dx.doi.org/10.2139/ssrn.2115367 King, S.J. (2009). The new authoritarianism in the Middle East and North Africa. Bloomington: Indiana University Press. Konings, J., Rizov, M., & Vandenbussche, H. (2003). Investment and financial constraints in transition economies: micro evidence from Poland, the Czech Republic, Bulgaria, and Romania. Economics Letters, 78, 253-258. 27

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Li, H., Meng, L., Wang, Q., & Zhou, L. A. (2008). Political connections, financing and firm performance: Evidence from Chinese private firms. Journal of Development Economics, 87, 283–299.

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Su, Z. Q., & Fung, H. G. (2013). Political connections and firm performance in Chinese companies. Pacific Economic Review, 18, 283-317.

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Sun, P., Xu, H. & Zhou, J. (2011). The value of local political capital in transition China. Economics Letters, 110, 189-192. Worrell, D.L., Davidson, W.N., Chandy, P.R. & Garrison, S.L. (1986). Management turnover through deaths of key executives: effects on investor wealth. Academy of Management Journal, 29, 674694.

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Table 1 Number of firms by connection to Mubarak and state ownership With state ownership Connected to Mubarak 13 Unconnected to Mubarak 63 Total 76

No state ownership 12 45 57

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Table 2 Firm characteristics by connection to Mubarak and state ownership; average value at the end of 2010 Number of Age Market ROE P/B firms capitalization All firms 133 36.8 2560.3 12.75 2.37 Panel A: Connection to Mubarak, regardless of state ownership Connected 25 26.4 7224.8 11.06 2.33 Unconnected 108 39.2 1480.6 13.15 2.38 Panel B: Connection to Mubarak and state ownership Mubarak*NoState 12 29.7 8580.7 10.10 2.50 Mubarak*State 13 23.3 5973.2 11.94 2.17 NoMubarak*State 63 42.3 1819.9 14.16 2.02 NoMubarak*NoState 45 35.0 1005.5 11.72 2.88

Total 25 108 133

Leverage 0.13

0.25 0.10

0.22 0.29 0.08 0.13

Notes: Firm’s age is the number of years from the firm’s establishment to the end of 2010. Market capitalization is measured in million Egyptian pounds. Return on equity is defined as net income divided by the value of equity. P/B is stock price divided by book value per share. Leverage is calculated as the ratio of debt to assets. Mubarak*NoState is the group of firms that have connection to Mubarak only and no state ownership. Mubarak*State is the group of firms that have both connection to Mubarak and state ownership. NoMubarak*State is the group of firms that have state ownership only but no connection to Mubarak. NoMubarak*NoState is the group of firms that have neither connection to Mubarak nor state ownership.

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Table 3 Univariate tests of difference in cumulative abnormal returns (CARs, in %) Event windows Firms connected to Mubarak Firms unconnected to Mubarak ( n=25 ) ( n = 108 ) [-1, +1] -10.927 -10.318 [-1, +2] -13.000 -6.643 [-1, +5] -14.426 4.238 [-2, +8] -18.941 -0.458 [-1, +10] -16.430 5.016 [-5, +10] -22.545 -2.742

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*, ** and *** represent significance at the 10%, 5% and 1% levels respectively.

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Difference (t-statistics) 0.609 (0.328) -6.358 (2.472***) - 18.664 (3.839***) -18.483 (3.566***) -21.446 (4.181***) -19.803 (3.602***)

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Table 4 Effect of connection to Mubarak and state ownership on cumulative abnormal returns (CARs, in %) when Mubarak lost power CAR[-1,+1] CAR[-1,+2] CAR[-1,+5] CAR[-2,+8] CAR[-1,+10] CAR[-5,+10] Panel A Mubarak^ -1.640 -5.372** -16.304*** -15.418*** -17.493*** -16.603*** (0.442) (0.022) (0.000) (0.001) (0.000) (0.001) State^ 1.769 3.633** 6.831*** 5.746** 3.534 5.491** (0.207) (0.012) (0.008) (0.029) (0.179) (0.044) Age -1.897* -1.644 -0.142 -0.691 0.432 -1.355 (0.090) (0.240) (0.951) (0.772) (0.852) (0.591) Mktcap 0.412 -0.059 -0.969 -1.617 -2.707*** -2.066* (0.403) (0.902) (0.12) (0.110) (0.008) (0.057) ROE -0.018 0.022 0.025 0.044 0.053 0.081 (0.582) (0.524) (0.597) (0.467) (0.255) (0.116) P/B -0.178*** -0.326*** -0.178 -0.083 0.025 -0.118 (0.007) (0.000) (0.101) (0.467) (0.819) (0.306) Leverage 3.968 3.211 6.431 7.645 11.421 8.255 (0.481) (0.597) (0.592) (0.417) (0.201) (0.389) Adjusted R2 0.146 0.306 0.372 0.334 0.394 0.363 Panel B Mubarak*NoState -4.786** -9.017*** -23.554*** -26.240*** -27.287*** -28.946*** (0.037) (0.002) (0.001) (0.000) (0.000) (0.000) Mubarak*State 1.450 -0.208 -6.428 -5.127 -9.846* -5.928 (0.588) (0.945) (0.226) (0.366) (0.050) (0.321) NoMubarak*State 0.361 2.002 3.587 0.905 -0.847 -0.030 (0.834) (0.235) (0.146) (0.728) (0.747) (0.991) Age -1.763 -1.489 0.165 -0.233 0.847 -0.831 (0.113) (0.279) (0.942) (0.917) (0.698) (0.724) Mktcap 0.625 0.187 -0.478 -0.884 -2.044* -1.231 (0.208) (0.737) (0.651) (0.429) (0.074) (0.280) ROE -0.025 0.014 0.009 0.020 0.031 0.053 (0.451) (0.702) (0.863) (0.717) (0.609) (0.351) P/B -0.200*** -0.352*** -0.228** -0.158 -0.043 -0.204* (0.006) (0.000) (0.040) (0.184) (0.669) (0.096) Leverage 1.861 0.770 1.576 0.399 4.863 -0.010 (0.748) (0.903) (0.874) (0.969) (0.485) (0.999) Adjusted R2 0.164 0.322 0.395 0.381 0.431 0.416

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Notes: In Panel A, Mubarak^ is a binary indicator that equals 1 if a firm is connected to Mubarak and 0 otherwise, regardless of state ownership. State^ is a binary indicator that equals 1 if the government of Egypt is one of the firm’s shareholders and 0 otherwise, regardless of connection to Mubarak. In Panel B, Mubarak*NoState equals 1 if a firm only has connection to Mubarak and no state ownership and 0 otherwise. Mubarak*State equals 1 if a firm has both connection to Mubarak and state ownership and 0 otherwise. NoMubarak*State equals 1 if a firm only has state ownership but no connection to Mubarak and 0 otherwise. The base group is the firms that have no connection to Mubarak and no state ownership. Age is the number of years from the firm’s establishment to the end of 2010. Mktcap is the natural logarithm of the firm’s market capitalization. ROE is return on equity. P/B is price-to-book ratio. Leverage is the ratio of total debt to total assets. These variables are measured at the end of 2010. Industry dummies are also included. p-values, shown in the parentheses, are based on GLS estimation. *, **, and *** denote statistical significance at 10%, 5%, and 1% levels respectively. Industry dummies are also included. The number of observations is 133.

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Figure 1: Cumulative abnormal returns (CAR, in %) in [-5, +57] event window 20

Period in which connected shareholders in seven firms sold their shares

30/4/2011

10 0 1

6

11

16

21

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31

36

41

46

31/5/2011

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30/6/2011

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Table 5 Univariate tests of difference in cumulative abnormal returns (CARs) when Mubarak lost power Mubarak*NoState NoMubarak*NoState (1)

Mubarak*State NoMubarak*NoState (2)

NoMubarak*State NoMubarak*NoState (3)

Mubarak*State Mubarak*NoState (4)

[-1,+1]

-3.452 (-1.575) -9.815*** (-3.260) -25.364*** (-3.428) -28.857*** (-3.825) -31.787*** (-3.851) -31.486*** (-4.017) -40.585*** (-3.908) -43.836*** (-3.498) -51.705*** (-3.392)

3.200 (1.165) 0.551 (0.151) -6.142 (-1.113) -5.569 (-0.945) -11.217* (-2.098) -5.453 (-0.882) -10.870 (-1.363) -11.145 (-1.543) -13.264* (-1.776)

1.057 (0.702) 3.314** (2.077) 5.649*** (2.645) 2.976 (1.330) 0.609 (0.265) 3.179 (1.292) 4.427 (1.317) 2.332 (0.585) 2.395 (0.457)

6.653** (2.118) 10.365** (2.331) 19.222** (2.153) 23.289** (2.521) 20.570** (2.173) 26.033** (2.708) 29.716** (2.363) 32.692** (2.362) 38.440** (2.392)

[-2,+8] [-1,+10] [-5,+10] [-5,+21] [-5,+39] [-5,+57]

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Event windows

Note: Mubarak*NoState is the group of firms that have connection to Mubarak only and no state ownership. NoMubarak*NoState is the group of firms that have no connection to Mubarak and no state ownership; this is the base group in the regressions in Panel B of Table 4. Mubarak*State is the group of firms that have both connection to Mubarak and state ownership. NoMubarak*State is the group of firms that have state ownership only but no connection to Mubarak. t-statistics are in the parentheses. *, **, and *** denote statistical significance at 10%, 5%, and 1% levels respectively.

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Table 6 Effect of connection to Mubarak and state ownership on cumulative abnormal returns (CARs, in %) when Mubarak lost power: Extended event windows CAR[-5,+21] CAR[-5,+39] CAR[-5,+57] Panel A Mubarak^ -23.045*** -21.961*** -23.728*** (0.000) (0.001) (0.006) State^ 7.193* 5.867 6.419 (0.051) (0.186) (0.270) Adjusted R2 0.381 0.342 0.304 Panel B Mubarak*NoState -35.127*** -38.520*** -45.320*** (0.000) (0.000) (0.002) Mubarak*State -10.778 -9.139 -7.814 (0.143) (0.182) (0.296) NoMubarak*State 1.788 -1.541 -3.374 (0.659) (0.755) (0.607) Adjusted R2 0.410 0.384 0.352 Notes: For details on firm characteristics and industry dummies included in these regressions, see notes under Table 4.

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Table 7 Political ties and financial constraint. Dependent variable: I/K

(C/K)Mubarak*NoState

A1

(C/K)Mubarak*State

B1

(C/K)NoMubarak*State

C1

(2) 2.676*** (0.000) -1.919** (0.045) -1.910 (0.123) -2.186** (0.028)

A2

(C/K)Mubarak*State*Post

B2

(C/K)NoMubarak*State*Post

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p-value of test of linear combination: A1+A2 = 0 B1+B2 = 0 C1+C2 = 0 Control Variables ln(MktCap)

S/K Tobin’s Q ln(MktCap)*Post

-0.126 (0.133) 0.021 (0.662) -0.009 (0.964)

-0.439*** (0.000) 0.526** (0.035) 0.352 (0.307) 0.496*** (0.000)

0.363 0.989 0.028

0.361 0.995 0.019

0.001 (0.980) 0.024 (0.192) -0.186*** (0.000) 0.143*** (0.000)

0.015 (0.627) 0.065*** (0.000) -0.224*** (0.000)

0.037 (0.742)

0.026 (0.458) -0.040*** (0.008) -0.008 (0.585) 0.156*** (0.005) -0.103*** (0.002)

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S/K * Post

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-0.178** (0.026) -0.124 (0.107) -0.011 (0.958) 0.289*** (0.002)

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(C/K)Mubarak*NoState*Post

-0.440*** (0.000) 0.493** (0.037) 0.435 (0.183) 0.495*** (0.000)

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C/K*Post

Difference-in-difference (DID) (3) (4) 0.294*** 0.699*** (0.000) (0.000) -0.687*** -0.731*** (0.004) (0.004) -0.439* -0.353 (0.055) (0.142) -0.727*** -0.756*** (0.000) (0.000)

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(1) 2.466*** (0.000) -1.633* (0.095) -1.787 (0.117) -1.625 (0.180)

D/K* Post

S/K*Post

Tobin’s Q*Post Post

Adjusted R2

0.095

0.094

0.187* (0.060) 0.197

-0.044*** (0.005) -0.017 (0.184) 0.191*** (0.001) -0.217 (0.659) 0.231** (0.040) 0.152

Notes: I/K is investment to capital ratio; C/K is cash-equivalent to capital ratio; ln(MktCap) is logarithm of firm market capitalization. D/K is debt to capital ratio; S/K is sales growth to capital ratio; S/K is sales to capital ratio. Regressions in column (1) and (2) are based on 2006-2011 data; the number of firm-year observations is 294. DID regressions in columns (3) and (4) are based on data of 2008-2015, in which the period after Mubarak lost power (2012-2015) is indicated by dummy variable Post; the number of firm-year observations is 630. The results are obtained from fixed-effect instrument-variable panel estimation, where two lags of C/K are used as its own instruments. See notes under Table 4.

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Table 8 Political ties and firm leverage. Dependent variable: Leverage

14.907*** (0.000) -9.370 *** (0.000) 3.499*** (0.001) -0.103 *** (0.006) -0.007 (0.135) 0.311

Mubarak^ State^

ln(Assets) ROE AssetGrowth

Adjusted R2

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Notes: See notes under Table 4. Leverage is measured as total debt to assets Industry and year dummies are also included. The sample period is 20062010. The number of firm-year observations is 528.

Yes 106 0.186

Yes 109 0.186

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Control variables Observations Adjusted R2

(4) Nov 1-Nov 22, 2015 0.061 (0.351) 0.100 (0.379) -0.053 (0.351)

(5) Jan 1-Dec 31, 2015 -0.006 (0.978) 0.156 (0.616) 0.335 (0.212)

Yes 108 0.123

Yes 108 0.218

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Table 9a Political ties and equity propping. Dependent variable: Stock return. (1) (2) (3) Sept 1-Oct 31, Feb 1-May 10, Jul 26-Aug 23, 2008 2015 2015 Leverage -0.155 0.098 -0.085 (0.321) (0.518) (0.381) Leverage*Mubarak^ 0.608* 0.032 0.073 (0.088) (0.833) (0.580) Leverage*State^ -0.056 0.044 0.060 (0.777) (0.795) (0.594) Yes 108 0.274

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0.940*** (0.000) -0.975*** (0.001)

Leverage*Post Leverage*Mubarak^*Post

a2

Leverage*State^*Post

b2

(2) -0.478*** (0.000) 0.545* (0.058) 0.277 (0.110) 0.892*** (0.000) -0.544* (0.090) -0.602*** (0.004)

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Table 9b Political ties and equity propping. Difference-in-difference (DID) analysis. (1) Leverage -0.552*** (0.000) Leverage*Mubarak^ a1 0.800** (0.003) Leverage*State^ b1

0.308

0.998 0.065

Control variables Observations Adjusted R2

Yes 215 0.307

Yes 215 0.427

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p-value of test of linear combination: a1 + a2 = 0 a1 + b2 = 0

Notes: Post is dummy variable that equals zero for the period covering Lehman Brother’s bankruptcy (Sept 1-Oct 31, 2008) and equals one for the period covering 2015 Egypt stock market crash (Feb 1-May 10, 2015). Control variables included in all the regressions include the natural logarithms of total assets (a proxy for firm size), return on equity (profitability), and industry dummies; these are measured at the beginning of 2008 and 2015.

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Table 10 Effect of connection to Mubarak and state ownership on Egyptian firms’ cumulative abnormal returns (CARs, in %): When Tunisian President Ben Ali lost power CAR[-1,1] CAR[-1,5] CAR[-2,5] CAR[-5,5] Panel A Mubarak^ 1.309 2.124 2.287 0.129 (0.390) (0.525) (0.526) (0.975) State^ 2.160*** 3.822*** 4.452*** 4.618*** (0.007) (0.005) (0.004) (0.005) Adjusted R2 0.137 0.168 0.126 0.101 Panel B Mubarak*NoState -0.283 -0.427 0.835 -2.737 (0.833) (0.865) (0.775) (0.451) Mubarak*State 4.138** 7.017 7.349 5.951 (0.035) (0.108) (0.123) (0.237) NoMubarak*State 1.447 2.681 3.803** 3.336* (0.155) (0.118) (0.047) (0.094) Adjusted R2 0.147 0.175 0.123 0.106 Notes: For details on firm characteristics and industry dummies included in these regressions, see notes under Table 4.

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Table 11 Effect of connection to Mubarak and state ownership on cumulative abnormal returns (CARs, in %) when Mubarak lost power: Post-event estimation window CAR[-1,1] CAR[-1,5] CAR[-2,8] CAR[-1,10] CAR[-5,10] Panel A Mubarak^ 3.718 -10.463** -8.599** -11.880*** -9.817* (0.126) (0.011) (0.060) (0.004) (0.051) State^ -1.206 3.925 2.487 1.247 2.852 (0.412) (0.112) (0.331) (0.630) (0.286) Adjusted R2 0.049 0.127 0.063 0.170 0.130 Panel B Mubarak*NoState 2.794 -15.535** -16.429*** -18.542*** -18.334*** (0.324) (0.014) (0.009) (0.005) (0.004) Mubarak*State 2.900 -4.451 -2.823 -7.836 -3.389 (0.372) (0.399) (0.624) (0.137) (0.599) NoMubarak*State -1.620 1.669 -1.015 -1.733 -0.958 (0.375) (0.495) (0.703) (0.519) (0.735) Adjusted R2 0.043 0.138 0.096 0.188 0.162

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Notes: For details on firm characteristics and industry dummies included in these regressions, see notes under Table 4.

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Table 12 Effect of connection to Mubarak and state ownership on cumulative abnormal returns (CARs, in %) when Mubarak lost power: Egyptian stock index is used as the market return CAR[-1,1] CAR[-1,5] CAR[-2,8] CAR[-1,10] CAR[-5,10] Panel A Mubarak^ -1.575 -14.611*** -13.994*** -15.781*** -15.824*** (0.526) (0.001) (0.003) (0.000) (0.002) State^ 1.179 6.253** 5.090* 3.019 4.909* (0.469) (0.016) (0.054) (0.252) (0.079) Adjusted R2 0.127 0.282 0.250 0.309 0.289 Panel B Mubarak*NoState -4.642 -20.493*** -23.640*** -24.176*** -27.482*** (0.140) (0.003) (0.001) (0.001) (0.000) Mubarak*State 0.891 -5.888 -4.853 -9.237* -6.019 (0.776) (0.290) (0.407) (0.077) (0.316) NoMubarak*State -0.193 3.622 0.775 -0.736 -0.307 (0.924) (0.143) (0.770) (0.783) (0.917) Adjusted R2 0.133 0.295 0.291 0.338 0.339 Notes: For details on firm characteristics and industry dummies included in these regressions, see notes under Table 4.

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Table 13 Dependent variable: Stock return. Regression on pooled data (1) (2) Sept 1-Oct 31, Feb 1-May 10, 2008 2015 Leverage -0.155 0.098 (0.321) (0.518) Leverage*Mubarak^ 0.608* 0.032 (0.088) (0.833) Leverage*State^ -0.056 0.044 (0.777) (0.795) Observations 106 109 Adjusted R2 0.186 0.186

(3) Jul 26-Aug 23, 2015 -0.085 (0.381) 0.073 (0.580) 0.060 (0.594) 108 0.274

Notes: See notes under Table 9.

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(4) Nov 1-Nov 22, 2015 0.061 (0.351) 0.100 (0.379) -0.053 (0.351) 108 0.123

(5) Jan 1-Dec 31, 2015 -0.006 (0.978) 0.156 (0.616) 0.335 (0.212) 108 0.218

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AL Arafa For Investment And Consultancies

Ahmed Arafa family (FactSet)

AL Ezz Aldekhela Steel Alexandria

Ezz Steel (FactSet)

Al Ezz Porcelain (Gemma)

Ahmed Ezz (FactSet)

Amer Group Holding

Mansour Amer family (FactSet, Coface)

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APPENDIX: List of firms connected to Mubarak This table lists Egyptian firms that have connection with Mubarak’s regime. The information on shareholdings is gathered from two financial databases (Factset, Coface Financial Yearbook), local media and organizations as well as Elaasar (2009). The sources identifying connection are listed in the last column; further details of these sources are provided in the footnotes. Company name Shareholder connected to Mubarak Source identifying (Ownership database/source) connection AL Ahli Investment and Golden Pyramid Plaza* Muslim Brotherhood Development (Coface) Elaasar (2009)

Muslim Brotherhood

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Al-Ahram Weekly(a) Al Arabiya (a) The Economist Elaasar (2009) Muslim Brotherhood ZeeNews

Arab Aluminum

Al Arabiya (a) Al-Ahram Weekly(a) Al Arabiya (b) The Economist Elaasar (2009) Muslim Brotherhood ZeeNews Elaasar (2009) Inter Press Service

Kharafi Group (Coface)

Elaasar (2009) Jouhina News

Americana Group (Coface)

Elaasar (2009) King (2009)

El Mansour & El Maghraby Investment & Development Co. (Coface)

Al Arabiya (b) Al-Ahram Weekly (a) Al-Ahram Weekly (b) Elaasar (2009) King (2009) Muslim Brotherhood

Citadel Capital

Ahmed Arafa family* (FactSet)

Muslim Brotherhood

Delta Insurance

Egyptian Kuwaiti Holding (Bloomberg)

Muslim Brotherhood Elaasar (2009) King (2009)

Egyptian Company for Mobile Services (MobiNil)

Orascom Telecom Holding SAE, MobiNil Telecommunications Co (FactSet)

Elaasar (2009) Guardian King (2009) Muslim Brotherhood Inter Press Service

Cairo Poultry

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Credit Agricole Egypt

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Source identifying connection King (2009) The Washington Post New York Times

Egyptian for Tourism Resorts

First Arabian Development & Investment Co. (Coface and FactSet)

Houston Chronicle Muslim Brotherhood

Egyptian International Tourism Projects

Kharafi family (Coface)

Egyptian Kuwaiti Holding

Al-Kharafi family, Americana Group and Moataz Al Alfi (FactSet)

Egyptian Starch & Glucose

Cairo Poultry Co and Americana Group (Coface)

Elaasar (2009) King (2009)

Ezz Steel

Ahmed Ezz (FactSet)

Al Arabiya (a) Al-Ahram Weekly (a) Al Arabiya (b) The Economist Elaasar (2009) Muslim Brotherhood ZeeNews

GB AUTO

Raouf Ghabbour family (FactSet)

Al-Ahram Weekly(a) Muslim Brotherhood King (2009)

Sharbatly family (Coface)

Muslim Brotherhood Elaasar (2009)

Arafa family (Coface)

Muslim Brotherhood

Al Gabali Sherif family (Coface)

Jadaliyya the Egyptian Gazette Reuters News

International Company For Leasing

Societe Arabe Internationale De Banque (Coface)

Al-Ahram Weekly (d) Elaasar (2009) Soliman(2012)

Nile City Investment

Orascom Group (Coface)

Elaasar (2009) Guardian King (2009) Muslim Brotherhood Inter Press Service

Orascom Construction Industries (OCI)

Sawiris family (Coface)

Elaasar (2009) Guardian King (2009) Muslim Brotherhood Inter Press Service

Golden Pyramids Plaza Golden Textiles & Clothes Wool

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EP

International Agricultural Products

Elaasar (2009) Jouhina News

Muslim Brotherhood Elaasar (2009) King (2009)

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Egyptian Financial GroupHermes Holding Company

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Company name

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Shareholder connected to Mubarak (Ownership database/source) Gamal Mubarak (New York Times)

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Shareholder connected to Mubarak (Ownership database/source) Sawiris family

Orascom Development Holding (AG)

Source identifying connection Elaasar (2009) Guardian King (2009) Muslim Brotherhood Inter Press Service

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Company name

Orascom Telecom Holding (OT)

Sawiris family (Coface)

Oriental Weavers

Khamis family (Coface)

Palm Hills Development Company

Mansour family and Magraby family (Coface)

Senurita food Production

Americana Group (Coface)

Elaasar (2009) King (2009)

Six of October Development & Investment (SODIC)

Magdy Rasekh (Egyptian Independent)

Daily News Egypt The Egyptian Gazette Egyptian Independent

SC

M AN U

Al Arabiya (b) Al-Ahram Weekly(a) Al-Ahram Weekly (b) Elaasar(2009) King (2009) Muslim Brotherhood

The Arab Contractors Osman Ahmed Osman & Co (FactSet)

Al-Ahram Weekly (d) Elaasar (2009) Soliman (2012)

Osman family (Coface)

Al-Ahram Weekly (d) Elaasar (2009) Soliman(2012)

EP

Specialized Industries & Contracting

Muslim Brotherhood King (2009) news.egypt.com

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Societe Arabe Internationale De Banque

Elaasar (2009) Guardian King (2009) Muslim Brotherhood Inter Press Service

Hisham Talaat Moustafa family Financial Times, (Coface) Al-Ahram Weekly (c) * Although percentage of shares held by this family business group is less than 10%, we include this firm in our sample of connected firms because of the prominence of this business group in Egypt. It is likely that any substantial shareholdings by the family would draw the attention of investor public.

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T M G Holding

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Footnotes:

Al-Ahram Weekly (c) Al-Ahram Weekly (d) Al Arabiya (a) Al Arabiya (b) Daily News Egypt The Economist Egyptian Gazette

Houston Chronicle Inter Press Service Jadaliyya Jouhina News

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ZeeNews

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Soliman (2012) The Washington Post

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King, Stephen Juan (2009)

Reuters News

2 - 8 September 2010 Issue No. 1014 13 – 19 December 2001 Issue No. 564 16 April 2011 23 February 2011 28 September 2011 2 April 2011 21 February 2011 31 July 2012

2009 6 July 2011 2 February 2010

M AN U

Elaasar (2009) Financial Times Guardian

Muslim Brotherhood The New York Times News.egypt.com

Date 17 - 23 March 2011 Issue No. 1039 12 March 2011

SC

Egyptian Independent

Title of Article / Book Money for freedom National Democratic Party expels 21 members NDP nominations begin Enjoying bad news Egypt criminal charges pressed Mubarak associates in court as Egypt pursues graft Egypt stocks fall LE 3.4 bln How to become politics-proof More ex-officials, tycoons on asset freeze list Former housing minister appeals 8-year sentence The Last Pharaoh Land deal battle reflects Egypt's dilemma The Sawiris family: from entrepreneurs to media owners HISD uses caution over software deal Egypt: People-funded TV Challenges Big Business How Do You Finance Social Justice in Egypt? Jadaliyya Interview with Journalist Wael Gamal Hosni Mubarak wealth goes beyond 40 Billion Dollars The New Authoritarianism in the Middle East and North Africa Team of Next Egyptian Dictator Mubarak family riches attract new focus Mubarak era tycoons join Egypt President in China Mubarak son leads solidarity mission to Beirut The Egyptian episode of self-built housing Egyptian prosecutor alleges schemes by Mubarak family Egyptian Steel tycoon and a Mubarak crony jailed

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Source Al-Ahram Weekly (a) Al-Ahram Weekly (b)

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14 December 2003 25 August 2011

10 June 2011 26 April 2010 2009

11 March 2007 13 February 2011 28 August 2012 8 August 2006 Habitant International, No.36, 2012 10 April 2011 16 September 2011

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We compile a list of Egyptian listed firms that are connected to President Mubarak The sudden collapse of Mubarak’s 30-year regime is treated as a natural experiment Connection to Mubarak’s regime had contributed about 22.4% of firm value State-ownership was a separate source of political capital in Mubarak-era Egypt Connected firms benefited from lower financial constraint and debt-induced propping

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