Shareholder Protection and Outside Blockholders: Substitutes or Complements?

This paper joins the literature examining connections between legal protection of shareholders and finance. Driven by the need to attract funds a manager tries to reduce agency costs by selling a fraction of equity to a large investor (the outside blockholder). Monitoring by the blockholder can serve as a commitment device limiting inefficient private benefits extraction. However, the threat of collusion between the blockholder and the manager hampers raising funds from dispersed shareholders. We examine how the manager’s choice of the ownership structure is affected by the legal protection of shareholders. Our main finding is that, contrary to the widespread view, there can be a U-shape dependence of the outside ownership concentration on the quality of shareholder protection. At the same time our result on the total ownership concentration is consistent with recent research.Corporate governance, shareholder protection, blockholder monitoring, collusion, ownership structure

Shareholder Access to Manager-Biased Courts and the Monitoring/Litigation Tradeoff

Adequate access to courts by minority shareholders is commonly viewed as an important element of a good corporate governance system. Should shareholders be provided with easy access to courts when judges are unlikely to punish opportunistic managers? It might seem that having an extra instrument of protection is always better as long as it provides some protection against managerial self-dealing. We present a model, which shows that facilitating shareholder litigation in a system where courts are biased towards managers can actually lower efficiency, as it can lead to either excessive litigation or excessive monitoring of managers by shareholders. The latter effect arises when litigation is very costly for the firm, but cheap for an individual shareholder. In this case, easy litigation does not lead to a greater reliance on the judiciary and results in more, rather than less, concentrated ownership. This is the effect of the optimal adjustment of the ownership structure to an increase in shareholders’ willingness to bring suits when courts are manager-biased. Our model implies that removing impediments to shareholder litigation in countries where courts are reluctant to protect shareholders may increase the cost of corporate governance there.corporate governance, shareholder protection, shareholder litigation, monitoring, biased courts