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Corporate control and underinvestment

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  • Thomas Poulsen

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Abstract

This paper reports a study of how the benefits that large shareholders derive from their control of a firm affect the equity issue and investment decisions of the firm. I introduce an explicit agency cost structure based on the benefits of control of the largest shareholder. In a simple extension of the model developed by Myers and Majluf (J Financial Econ 13:187–221, 1984 ), I show that underinvestment is aggravated when there are benefits of being in control and these benefits are diluted if equity is issued to finance an investment project. Using a large panel of US data, I find that the concerns of large shareholders about the dilution of ownership and control cause firms to issue less equity and to invest less than would otherwise be the case. I also find that it makes no significant difference whether new shares are issued to old shareholders or new shareholders. Copyright Springer Science+Business Media, LLC. 2013

Suggested Citation

  • Thomas Poulsen, 2013. "Corporate control and underinvestment," Journal of Management & Governance, Springer;Accademia Italiana di Economia Aziendale (AIDEA), vol. 17(1), pages 131-155, February.
  • Handle: RePEc:kap:jmgtgv:v:17:y:2013:i:1:p:131-155
    DOI: 10.1007/s10997-011-9171-8
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    File URL: http://hdl.handle.net/10.1007/s10997-011-9171-8
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    References listed on IDEAS

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    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Equity issue; Underinvestment; Private benefits of control; Potential loss of control; Voting power; G31; G32;

    JEL classification:

    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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