Related Party Transactions, Political Connection, and Firm Performance: Evidence from Indonesia

Related party transactions (RPTs) enhance firm value by reducing transaction costs under incomplete information but may harm firm value when used as an instrument for expropriating a firm’s wealth. Focusing on the worsening of agency problems due to political connection, we explore how the effects of RPTs on firm performance differ across firms based on their level of political connection. Using manually collected data on RPTs and the political connections of Indonesian listed firms from 2007 to 2018, we find that, on average, financial RPTs are negatively associated with accounting performance but positively associated with stock returns. This reflects the mixed evidence from prior studies that RPTs have both positive and negative consequences on firm value. We further examine whether politically connected firms are more likely to commit to value-destroying RPTs. We find that RPTs are negatively associated with stock returns specifically when a firm is closely tied to politicians or government officials. Overall, our findings suggest that political connection may facilitate value-destroying RPTs, muting their positive effects on firm value. JEL Classification: G32, G34.