Abstract: By choosing Chinese local state-owned listed companies during the period of 2005~2008 as samples, from the perspective of free-cash-flow agency problems,the corporate governance effects of cash-flow rights and control rights are studied when local government is ultimate controller. The empirical results indicate that (1) only when cash-flow rights held by local government is at a higher level, the cash-flow rights have the incentive effect, which can bind the behavior of abusing free cash flow for over investment; However, when cash-flow rights is at a lower level, the incentive effect is not found. (2) the divergence between control rights and cash-flow rights has the entrenchment effect. However, when cash-flow rights held by local government is at a higher level, the cost of overinvestment for private benefits is increasing, therefore, the entrenchment effect becomes moderate accordingly. The study provides enlightenment for understanding the proxy conflict between the ultimate shareholder and external minority shareholders in local state-owned listed companies during the period of transition economies, and enriches empirical literatures involving the study on corporate governance under the control of government.

Key words: ultimate control, incentive effect, entrenchment effect, overinvestment