'Generous Thieves': The Puzzle of Controlling Shareholder Arrangements in Bad-Law Jurisdictions

Abstract

Unfair self-dealing and expropriation of minority shareholders by a controlling shareholder are common business practices in developing countries (“bad-law” countries). Although controlling shareholder agency problems have been well studied so far, there are many questions unanswered relating to the behaviors and motivations of controlling shareholders. For example, it is puzzling that some controlling shareholders in bad-law countries voluntarily extract minority shareholders less than other controlling shareholders. Applying Mancur Olson’s framework of the political theory of “banditry” in the context of corporate governance, this Article proposes that there are at least two categories of controlling shareholders. “Roving controllers” are dominant shareholders with a short-term view who take substantially all corporate assets at once to the fatal detriment of minority shareholders. However, “stationary controllers” are far-sighted dominant shareholders who take a part of corporate assets periodically at a modest rate.

Based on this new taxonomy of controlling shareholders, this Article uses new analytical frameworks to solve the puzzle. Most of all, through a discounted cash flow model, this Article explains under what circumstances a controlling shareholder chooses to be roving or stationary. If a controlling shareholder is able to have a large base of minority shareholders, it would be in his best interest to be stationary (and thus generous), since the sum of partial but periodical expropriations would be larger than a one-time total plundering. Thus, even without good law, a stationary controller voluntarily abstains from looting a corporation to the fullest extent. This Article puts forward new theories of controlling “family” shareholders as well. A controlling family shareholder deals with minority shareholders in repeated transactions, so that he is more likely to be stationary and generous to minority shareholders when expropriating. In addition, under the serious information-asymmetry problem, controlling family shareholders can send a more credible signal that they are stationary to minority shareholders. As a result, minority shareholders and controlling family shareholders have a (relatively) constructive relationship over the long-term. This Article also shows that when the psychological value of running a business is highly valuable to a controlling shareholder, the controlling shareholder is likely to extract minority shareholders to a lesser extent.

Keywords: Corporate Governance, Controlling Shareholders, Bad-Law Jurisdictions, Roving Controller, Stationary Controller, Controlling Family Shareholders, Family Corporation, Self-Dealing, Tunneling, Game Theory, Agency Problem, Pecuniary Benefits, Non-Pecuniary Benefits, Investor Protection

JEL Classification: G30, K22, G32, C70