Investment decisions with benefits of control
AbstractThis paper studies how large shareholders with bene…ts of control a¤ect …rms’ equity issue behavior and investment decisions. I introduce an explicit agency cost structure based on the large shareholder’s bene…ts of control. In a simple extension of Myers and Majluf , I show that underinvestment is aggravated when there are bene…ts of being in control, and these bene…ts are diluted if equity is issued to …nance the investment project. I assume that large shareholders are constrained from further investments in their …rms, and that they maximize their own wealth, which includes the value of security bene…ts paid to all shareholders in proportion of ownership stake plus the value of private bene…ts from voting rights. Potential loss of control is calculated as the di¤erence in the largest shareholder’s voting power before and after a hypothetical equity issue. I use voting power as a representation of the large shareholders’expected private bene…ts. Using a large panel of U.S. data, I …nd that large shareholders’ concern with dilution of ownership and control cause …rms to issue less equity and to invest less. I also …nd that it has no signi…cant e¤ect whether new shares are issued to old shareholders or new shareholders.
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Bibliographic InfoPaper provided by University of Aarhus, Aarhus School of Business, Department of Business Studies in its series Finance Research Group Working Papers with number F-2008-02.
Length: 41 pages
Date of creation: 19 Mar 2008
Date of revision:
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Underinvestment; equity issue; ownership structure; influence; voting power; private benefits of control; potential loss of control;
This paper has been announced in the following NEP Reports:
- NEP-ALL-2008-04-12 (All new papers)
- NEP-CTA-2008-04-12 (Contract Theory & Applications)
- NEP-PPM-2008-04-12 (Project, Program & Portfolio Management)
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