The Dark Side of Insider Ownership
Boston College - Department of Finance
Hwanki Brian Kim
University of Illinois at Urbana-Champaign - Department of Finance; UIUC
University of Illinois at Urbana-Champaign
February 4, 2014
This paper documents a new cost of insider ownership; we call this the minority-alignment cost. This cost arises when higher insider ownership incentivizes the insider to act in the best interest of a minority of shareholders. These actions thus hurt the interests of the majority of shareholders and therefore firm value. We document evidence consistent with this cost of insider ownership using a natural experiment caused by the 2012 presidential election and the impending fiscal cliff. In this setting, insiders (who are subject to dividend taxes) had a personal incentive to pay out large special dividends, and this incentive was stronger for insiders who owned a larger fraction of the firm. We show that when insider ownership was high, firms were less responsive to the tax incentives of the investor base (i.e., the fraction of taxable vs. non-taxable shareholders). Further, when there was more misalignment (high insider ownership combined with high ownership by non-taxable investors), these decisions had worse valuation implications and often destroyed firm value.
Number of Pages in PDF File: 32
Keywords: Insider ownership; Institutional ownership; Dividends; Payout policy; Taxes; Agency Costs; Fiscal cliff
JEL Classification: G32, G34, G35, G38
Date posted: March 15, 2013 ; Last revised: February 20, 2015
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