Ownership Concentration, 'Private Benefits of Control' and Debt Financing

Abstract

Building on the 'law and economics' literature, this paper analyses corporate governance implications of debt financing in an environment where a dominant owner is able to extract ex ante 'private benefits of control'. Ownership concentration may result in lower efficiency, measured as a ratio of a firm's debt to investment, and this effect depends on the identity of the largest shareholder. Moreover, entrenched dominant shareholder(s) may be colluding with fixed-claim holders in extracting 'control premium'. One of possible outcomes is a 'crowding out' of entrepreneurial firms from the debt market, and this is supported by evidence from the transition economies.JEL Classification: G21, G28, G32, G34

Earnings management and internal mechanisms of corporate governance: Empirical evidence from Chilean firms

“…In this framework, banks play an outstanding role in the allocation of financial resources in detriment of capital markets (Allen and Gale, 2001; Beck and Levine, 2004) and can even become reference shareholders in many firms (Krozner and Strahan, 1999). As a consequence of the failure of the civillaw system to protect the interests of minority shareholders, Chilean firms rely on internal control mechanisms (Filatotchev and Mickiewicz, 2001). This could explain why, as shown by Majluf et al (1998), the ownership structure of Chilean firms is highly concentrated.…”

Endogenous Ownership Structure

“…3 The ambiguity of results may indicate that the underlying theoretical assumptions are not entirely satisfactory. Some authors strongly point out that in economies in transition, privatisation seems to set in motion a process of ownership adjustment where ownership concentration and structure may be an outcome of various firm-specific factors such as size, performance, industrial affiliation, etc., as well as the firm's operating environment (see Filatotchev et al, 2001a;Filatotchev and Mickiewicz, 2001). This dissenting strand in literature draws from Demsetz and Lehn (1985) and Jensen and Warner (1988), who provided both arguments and evidence for treating equity composition as endogenous.…”

“…In addition, the response of equity structures to firm-level characteristics is also affected by the characteristics of the capital market framework. Shleifer and Vishny (1997), La Porta et al (1997, 1998, 2000a, 2000b, Filatotchev and Mickiewicz (2001) provide both the theoretical models and empirical evidence that suggests that concentrated ownership and equity levels that guarantee control rights are an equilibrium response to imperfect capital markets. Yet, not many studies on post-privatisation outcomes in transition economies consider equity as endogenous.…”

“…Therefore, we do not differentiate between different types of foreign owners, such as, for example, financial institutions as opposed to industrial partners/investors. However, the identity of the owners may have important corporate governance effects (Filatotchev and Mickiewicz, 2001), and we intend to pursue this avenue of research in the future. with minority government stakes to be privatised later, and one company for which the government retained 'long-run' minority equity holdings, implying that its equity is not expected to be sold in a foreseeable future.…”

“…Improvements in data quality and larger samples may facilitate full structural equation modeling of the complex inter-relationships between ownership structure, performance and internationalisation (exporting in particular). Finally, our analysis is focused on the aggregated groups of shareholders, and the corporate governance effects of identities of particular shareholders may be another important direction of the future research (Filatotchev, Mickiewicz 2001). …”