Bar IlanJune 18, 2012

Concentrated Ownership Revisited:

Idiosyncratic Value and Agency Costs

Zohar Goshen & Assaf Hamdani

Existing Literature

Holding a Control Block is Costly

Illiquidity, Reduced Diversification

Bad PBC Monitoring

Pie’s Distribution Increase Pie’s Size

Improve Minority Protection Legal Optimal PBC

Some Difficulties

Private Benefits•Good-law countries•Private equity

Monitoring• Contract-based compensation• Relative costs

Our View

•Idiosyncratic value▫Subjective value; vision; business plan▫If realized, may be shared pro-rata

•Bundling control with cash-flow rights:▫Entrepreneur: control over idiosyncratic

value▫Investors: alleviates agency costs

Implications

• Concentrated Ownership▫ Can coexist with strong investor protection

• Control Premium▫Can reflect idiosyncratic value

• Corporate Law▫Balance minority protection and controller

rights▫Controller: property right over control▫Minority investors: pro-rata share

Financial Contracting Framework

Entrepreneur Investors

Idiosyncratic Value Agency Costs

Information Asymmetry

Control

Cash Flow

Control

Dual

Class

Dispersed ownership

Private Equity Funds

Controlling

Shareholders

Time: At Will 10 Years IndefiniteScope: Day-to-Day Complete Complete

Cash-Flow Rights

Dual

Class

Dispersed ownershi

p

Private Equity Funds

Controlling

Shareholders

Salary + 1-3% 2%+20% Less than 50% More than 50%

Controlling Shareholders(cash flow=voting)

•Controller▫Pursue idiosyncratic value increase

pie’s size▫Costs: illiquidity, reduced diversification,

monitoring

• Investors▫Alleviate asymmetric information and

(management) agency costs▫Exposure to (control) agency costs

Implications: Theory

•Concentrated ownership▫Even in good-law countries▫Even without private benefits of control

•Control premium▫Control is valuable (protects idiosyncratic

value)

Implications: Corporate Law

•Balance minority protection and controller rights

Implications: Corporate Law

Controller Rights

− Pursue idiosyncratic value− Property-rule protection:

− Management/Control− Exit

Minority Protection

− Agency costs− Liability-rule protection:

− Pro-rata rule− Mid-stream changes