"Private Benefits of Control: An International Comparison" Dyck, Alexander and Luigi Zingales Flashcards
What is the main idea?
PBOCs are explained and measured as the difference between the controlling stake and market value of the shares.
More PBOC = less stock market, less competition, weaker institutions
What is the methodology used? How to measure PBOCs?
Difficult to measure directly, otherwise would not be private and be claimed by minority shareholders in court
2 methods to quantify private benefits of control:
- Control premium (This method Is used)
Difference between the price per share paid by the acquiring party privately and the price per share on the market = private benefits - Price difference between shares in a dual-class system (not used)
Extra voting rights as a proxy for corporate control
Data: 393 control transactions, 1990–2000, 39 countries
What are the drawbacks of the both methods?
Control premium:
Biased, bc captures only common value, underestimates private benefits (private benefit is differently perceived by each person);
Sales of control blocks are rare;
Difficult to measure directly, hard to quantify;
Delay in incorporating public info into market price
Price difference between shares in a dual-class system:
Biased in the same way;
Dual-class shares are not allowed in every country
What are Private Benefits of Control?
“Psychic” value some shareholders attribute simply to being in control.
Sources: benefits enjoyed by parties in control: hard to value assets, difference between real value and price paid, information gain, psychic value, transfer pricing, using insider info for personal gain
Value is not shared among all the shareholders in proportion of the shares owned, but it is enjoyed exclusively by the party in control
What are the pluses and minuses of PBOC?
Pros for the party in control:
Psychic value, transfer pricing, using insider info for personal gain
Pros for the business:
Managers using profitable investments without company’s agreement might actually create value;
PBOC makes value enhancing and socially beneficial takeovers possible
Cons:
Maintaining a control block means lack of diversification;
If the company is struggling, PBOC may be negative: ownership may create reputational damage or legal liabilities
What affects the size of the PBOC premium?
The size of the block traded (larger block means more control);
Seller’s bargaining power (how much the seller can demand the buyer to pay)
If the institutional buyer is a foreigner (foreigners have less connections & knowledge, seller has more bargaining power)
Theoretical factors (with no evidence):
Presence of another large shareholder (have to share PBOC, pay less);
Industry (media company gives huge power);
Tangibility of assets (more tangible assets –> harder to extract money from business –> lower PBOC)
How does PBOC affect the finance sector?
Selling control in private negotiation is more profitable than in the market with dispersed buyers buying many noncontrolling stakes
3 effects of high PBOC on countries:
1. Fewer companies are public (because retail investors don’t factor in PBOC value); Underdeveloped equity/stock markets
2. Less widely held companies (majority owners don’t want to become minority and try to retain control after IPO)
3. To max profit, governments should sell companies privately not publically
What prevents PBOC?
LEGAL INSTITUTIONS:
1. The legal environment (Greater ability to sue controlling shareholders and greater shareholder protection)
2. Disclosure standards (Allows minority identify abuses; the more info majority needs to disclose, the smaller PBOC)
3. Enforcement (better enforcement decreases PBOC, increases shareholder protection)
EXTRA-LEGAL INSTITUTIONS
1. Product market competition (more competitive markets = more verified prices, if private benefits are monetized, company may go bankrupt)
2. Public opinion pressure (threat of losing reputation limits PBOC abuse)
3. Moral norms (doesn’t work)
4. Labor as monitor (doesn’t work)
5. Gov as monitor through tax enforcement (the stricter the rules, the less controlling shareholder can use transfer pricing to extract the value of benefits in the expense of minority shareholders)
What is the most important new fact about restraining PBOC?
The possible role of tax enforcement in reducing private benefits, and thus indirectly enhancing financial development
What are the 3 potential sources of PBOC?
Psychic value, perquisites (benefits), dilution
Who are the most common sellers of control blocks?
Corporation -> individuals -> new share issues -> unidentified -> government
