International Corporate Governance: Control Versus Ownership Rights

Slide 3.
International Corporate
Governance
Control versus Ownership Rights
Goergen, International Corporate Governance, 1st Edition Pearson Education Limited 2012
Slide 3.2
Lecture Aims
The aim of this lecture is to review the various
devices that create a wedge between control
and ownership.
It is important to be aware of differences
between control and ownership as they
determine the types of conflicts of interests
that a company and its stakeholders may be
subject to.
Slide 3.3
Learning Outcomes
By the end of this lecture, you should be able
to:
1. Distinguish ownership from control
2. Explain how to obtain the various combinations of
weak or strong control with dispersed or
concentrated ownership
3. Define security benefits and private benefits of
control
4. Assess the importance and amplitude of private
benefits of control across countries.
Slide 3.4
Introduction
While in the UK and the USA most listed
corporations are widely held, in the rest of the
world corporations tend to have large
shareholders with significant control.
How do these large shareholders manage to
stay in control?
The short answer is that they leverage control,
i.e. they manage to hold a substantial
percentage of voting rights while holding fewer
cash flow rights.
Slide 3.5
Introduction (Continued)
We have already seen one way of leveraging
control which is ownership pyramids, but
there are others.
More generally, we shall analyse the various
combinations of dispersed or concentrated
ownership and weak or strong control.
Slide 3.6
Combinations of Ownership and Control

We shall distinguish between two extremes for
both control and ownership
strong versus weak control
concentrated versus dispersed ownership.
Slide 3.7
Figure 1 Combinations of control and ownership

Control
Weak
Strong
Combination A: Combination B:
Dispersed
weak control
strong control
and dispersed
and dispersed
ownership
ownership
Combination C: Combination D:
Ownership
Concentrated
weak control
strong control
and
and
concentrated
concentrated
ownership
ownership
Slide 3.8

Dispersed ownership has two major advantages
increased liquidity resulting in a lower cost of capital,
and
the exposure to hostile takeovers putting pressure on
managers to perform well.
Its main disadvantage is the free-rider

problem whereby each individual shareholder
refuses to monitor the management as s/he will
bear all the costs from doing so, but will share
the benefits with all the other shareholders.
Slide 3.9

(Continued)
Concentrated control and ownership also have
a major advantage as there will be a
shareholder with enough power and sufficient
incentives to monitor the management.
Its main disadvantage is the danger of
minority shareholder expropriation.
Slide 3.10

(Continued)
A priori, we expect
combination A to apply to most Anglo-American
firms, and
combination D to most Continental European firms.
However, due to several mechanisms,

combination D does not apply to most
Continental European firms.
As a result, combination B prevails outside the
UK and the USA.
Slide 3.11
Combination A: Dispersed Ownership and

Weak Control
Case of most UK and US firms.

Advantages of liquidity and takeover market.
Disadvantages of insufficient monitoring.
Main conflict of interests is between the
management and the shareholders.
Slide 3.12
Slide 3.13
Slide 3.14
Combination B: Dispersed Ownership and

Strong Control
This combination prevails in most corporations
outside the UK and the USA.
Active market in the shares.
There is a controlling shareholder with enough
power to prevent the managers from
expropriating the shareholders.
However, there is also an increased risk of
Slide 3.15
Slide 3.16
Combination C: Concentrated Ownership

and
Weak Control
This is a fairly rare combination.

It applies to only a few firms across the world,
including German firms with voting caps.
Minority shareholders are protected as no
single shareholder is able to dominate.
Lack of monitoring and low liquidity.
Slide 3.17
Slide 3.18
Combination D: Concentrated Ownership

and
Control
This combination creates strong monitoring

incentives.
However, there is also low liquidity and a
reduced takeover probability.
Volkswagen AG holds 99% of the shares of
Audi AG.
Slide 3.19
How to Achieve Dispersed Ownership and

Strong Control
There are five main ways of achieving this
combination
ownership pyramids,
proxy votes,
voting coalitions,
dual-class shares, and
clauses in the articles of association that confer
additional votes to long-term shareholders.
They all consist of leveraging control, i.e. having

control while holding a lower ownership stake.
Slide 3.20
Ownership Pyramids
Figure 2 Simple ownership pyramid
Slide 3.21
Proxy Votes
We have already discussed proxy votes held
by banks.
These proxy votes originate from the shares of
the banks customers deposited with the
banks.
However, proxy votes may also be solicited by
the management, or
small shareholders seeking the support of the other
shareholders to obtain approval for a motion they
intend to put forward at the shareholders meeting.
Slide 3.22
Box 6 Proxy votes solicited by the management
Slide 3.23
Slide 3.24
Voting Coalitions
A voting coalition or voting pool consists of
several shareholders agreeing to vote in the
same way.
In practice, voting coalitions are rare,
especially those that persist in the long term.
One reason for the infrequency of voting
coalitions may be the costs imposed by
regulation.
Slide 3.25
Voting Coalitions (Continued)

The UK City Code on Takeovers requires
shareholders that have acquired a stake of at
least 30% to make a tender offer to the
remaining shareholders.
The same rule applies to voting coalitions.
However, there is evidence that in the UK
voting coalitions are formed on an ad hoc
basis to intervene in poorly performing
companies.
Slide 3.26
Dual-class Shares
Companies with dual-class shares have two
classes of shares
a class with voting rights or superior voting rights, and
a second class with no voting rights or fewer voting
rights.
While non-voting shares have the disadvantage of

no vote, in some countries these shares confer
preferential dividend rights and a higher seniority
(e.g. German preference shares).
Dual-class shares are issued by some Continental
European firms, but also some American firms.
Slide 3.27
Box 7 Ford Motor Company dual-class shares
Slide 3.28
Slide 3.29
Conferring Additional Votes to Long-term

Shareholders
Many French companies confer additional
voting rights to their long-term shareholders
via a clause in their articles of association.
Frequently, such clauses are put in place at
the time of the IPO and are also retrospective.
Slide 3.30
Slide 3.31
The Consequences of Dispersed Ownership

and Concentrated Control
Sanford Grossman and Oliver Hart argue that
large stakes create benefits of control.
There are two types
security benefits originate from the increase in firm
value due the monitoring of the management and they
are shared by all the shareholders
private benefits are extracted from the firm by the
large shareholder and are at the expense of the
minority shareholders.
The latter include tunnelling, transfer pricing,

nepotism and infighting.
Slide 3.32

and Concentrated Control (Continued)
The five main ways of achieving dispersed ownership with
concentrated control , i.e.,
ownership pyramids,
proxy votes,
voting coalitions,
dual-class shares, and
clauses in the articles of association that confer additional
votes to long-term shareholders.
all violate the rule of one-vote one-share.
The main consequence of violating this rule is the increase in
private benefits of control and the increased probability of
While private benefits are difficult to quantify, there are
nevertheless empirical studies that have tried to do exactly that.
Slide 3.33

and Concentrated Control (Continued)
The study by Michael Barclay and Clifford
Holderness was one of the first such studies.
They measure the value of private benefits by
the premium above the market price paid by
the buyer of a block of shares.
However, Jeffrey Zwiebel argues that one also
needs to take into account the size of the
block changing hands.
Slide 3.34
Table 1 Block premiums per country
Notes: The block premium is the difference between the price per share paid for the block and the
stock price two days after the announcement of the transfer of the block divided by the latter price
and multiplied by the proportion of cash flow rights presented by the block.
Source: Dyck and Zingales (2004)
Goergen, International Corporate Governance, 1 Edition Pearson Education Limited 2012
st
Slide 3.35
Slide 3.36
Conclusions
The combination of ownership and control determines the
main potential conflict of interests.
Combination A prevails in the UK and the USA whereas
combination B prevails elsewhere.
How to achieve combination B (such as through ownership
pyramids, proxy votes, dual class shares etc.) and its main
consequences.
- They confer more control rights than cash flow rights to
the large
shareholder.
- They create a wedge between control and ownership and
violate
the rule of one-share-one vote.
- This has important consequences as it determines the size
of the
private benefits of control that the large
shareholder may
extract from the firm at the expense
of the minority shareholders.

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Slide 3.

Combinations of Ownership and Control

Figure 1 Combinations of control and ownership

Combinations of Ownership and Control

Its main disadvantage is the free-rider

Combinations of Ownership and Control

Combinations of Ownership and Control

However, due to several mechanisms,

Combination A: Dispersed Ownership and

Case of most UK and US firms.

Combination B: Dispersed Ownership and

Combination C: Concentrated Ownership

This is a fairly rare combination.

Combination D: Concentrated Ownership

This combination creates strong monitoring

How to Achieve Dispersed Ownership and

They all consist of leveraging control, i.e. having

Box 6 Proxy votes solicited by the management

Voting Coalitions (Continued)

While non-voting shares have the disadvantage of

Box 7 Ford Motor Company dual-class shares

Conferring Additional Votes to Long-term

The Consequences of Dispersed Ownership

The latter include tunnelling, transfer pricing,

The Consequences of Dispersed Ownership

The Consequences of Dispersed Ownership

Table 1 Block premiums per country

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