TCF-set 5 by panniuniu

VIEWS: 1 PAGES: 22

									DECISION RIGHTS AND CORPORATE
CONTROL

5th set of transparencies for ToCF
I. INTRODUCTION

        Control right / Authority
                   FORMAL
                   allocation
   between              among investors    why        equityholders in
   investors and                                      good times
   entrepreneur?                                      debtholders in
                   REAL                               bad times?
Private information confers some (how much?) real authority even if
no formal authority.
 Why do managers have so much control?
  When do they have much control?
 Why do minority block shareholders have so much control?

           Informational             Need for
           asymmetry                 cooperation                 2
II. ALLOCATION OF FORMAL AUTHORITY
   (Reinterpretation of) Aghion-Bolton 1992
   RELINQUISHING CONTROL RIGHTS TO INVESTORS
   INCREASES PLEDGEABLE INCOME AND THUS BOOSTS
   DEBT CAPACITY.
    Example: Fixed investment model




 Action non describable, can’t be contracted upon; but can allocate
 control right
           investors decide
                                                                  3
           entrepreneur decides
Suppose action is first-best inefficient:

Investors control: bear none of         select profit-enhancing action.
Entrepreneur control: bears all of  receives only part of R         does
not take painful (profit-enhancing) action.




     Either A large                                 and then entrepreneur
     retains control

     Or A not sufficient to attract financing, then (if  not too large)
     investor control               second-best optimal.
                                                                       4
Reminiscent of costly collateral pledging!

 ONE ARGUMENT IN FAVOR OF "SHAREHOLDER VALUE"

[First-best efficient action   two reasons for investor control].




                                                                    5
STRENGTH OF BORROWER’ S BALANCE SHEET



                                  entrepreneur      A
  no funding       entrepreneur
                   relinquishes   retains control
                   control


MULTIPLE CONTROL RIGHTS:  ST decisions
                          collaborators
                          LT investment
                          managerial
                           compensation
                         etc.

K control rights

                                                        6
Parameters




             7
Case #1 (uninteresting)



                          relinquish only efficient ones.
Case #2 (capital constraint)


                                         (maximizes pledgeable income)

Entrepreneur keeps control rights for which




                                                                 8
Principle of relative willingness to pay for control right (pledge less
costly / more redeployable assets first = analogy):


        Surrender all control rights for which investor control
        is FB optimal, plus some others.




                                                                      9
                                                        START UP
Application
"BORROWS            Firm with        "BORROWS         Firm with
AGAINST             strong balance   AGAINST          weak balance
ASSETS"             sheet            INCOME"          sheet
 cash (A)                               no cash
 collateral                             no collateral
some safe income stream                 no safe income stream
 low private benefit
      relinquishes                          relinquishes most
      relatively few                        control rights
      control rights                        (borrows from
      (borrows from                         venture
      market, bank,...)                     capitalist,...)




                                                                  10
B CONTINGENT CONTROL RIGHTS RAISE BORROWING
  CAPACITY
  Combined with signal (e.g., ST profit):




In the absence of action (or with a noncontingent action):


(if signal sufficient statistic).
• With a contingent action: entrepreneur control and reward
  if high signal                                              11
• With a contingent action:   investor control and no reward if low
                              signal
                              entrepreneur control and reward if high
                              signal




                                                                  12
Pledgeable income:


Pledgeable income under noncontingent investor control:


is smaller if        (interesting case)




                                                          13
III.   REAL AUTHORITY
  Theory often assumes that management has formal right to choose:
      investment
      dividends / retained earnings
      debt / financial structure
      next manager when departing CEO
      takeover defenses
      etc.


                inaccurate       unintuitive
  Yet, management has substantial say in these decisions.
  Reconciliation: formal and real authority.

                                                               14
Issue with approach of directly assuming management has formal
rights:
 which rights,
 when real authority?
       [ depends on CORPORATE GOVERNANCE!]




                                                            15
INTUITIVE APPROACH
    n ex ante identical actions, plus status quo (0,0)
    only 1 action is "relevant" (others bad)
        identity not known ex ante
        furthermore         and
  Suppose entrepreneur
   (a) learns    relevant action
                
                
   (b) proposes the action.
       Uninformed investors rubberstamp iff

              (say, stronger balance sheet)
                  more likely to rubberstamp.
        Otherwise deadlock.
                                                          16
 Ownership concentration and (active) monitoring:




                                                     17
             STRENGTH OF BALANCE SHEET AND
                 CORPORATE GOVERNANCE
Arm’s lengh relationship (no active monitor)




       if investors rubberstamp.
       (extra term  0 by definition:
                                 )




                               rubberstamping
A STRONGER BALANCE SHEET LEADS TO A LESS        18
CONFLICTUAL RELATIONSHIP
Relationship lending

Suppose cost c > 0: active monitor has same information as
                    entrepreneur
                       criterion:


independent of A.
        (second reason for why)
        relationship lending covaries positively with weakness of
        balance sheet.




                                                                    19
        MULTIPLE SECURITIES AND OUTSIDE EQUITY


COSTS WELL UNDERSTOOD: Externalities among investors
(Jensen-Meckling 1976).              Debtholders’
                                     payoff
                                 D




                                                D               profit




SHAREHOLDERS
                                                    CREDITORS
(OUTSIDE EQUITY)




                          INSIDERS                              20
MULTIPLE SECURITIES AS A DISCIPLINING DEVICE


  FIRST             INTERMEDIATE                 SECOND EFFORT   FINAL
  EFFORT            PROFIT                       (CHOICE OF p)   OUTCOME


                            LIQUIDATION,                           R    p
                            DOWNSIZING                             0    1-p
                                           L



POOR INTERMEDIATE PERFORMANCE                  DEBT CONTROL
LIQUIDATION, INTERFERENCE

FAIR INTERMEDIATE PERFORMANCE                  EQUITY CONTROL
CONTINUATION


(Dewatripont-Tirole 1994)
                                                                       21
                         Dewatripont’s puzzle :
                                   Tension between


Design of multiple securities in            Facilitating renegotiation among
the first place                             investors

                                            Bondholder trustee and exchange offer
                                            institutions.
                                            Literature on bankruptcy.




                                                                           22

								
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