35 Pages Posted: 17 Jul 2008 Last revised: 25 Oct 2014
Date Written: February 9, 2009
There has been significant controversy over the desirability of anti-takeover protection devices, such as poison pills and golden parachutes. These devices are usually viewed negatively because they are associated with entrenchment and insider rent extraction. This position, however, is subject to debate. Insider protection, for instance, has the advantage of transferring control to better-informed insiders. In fact, in this paper we show that insider protection can arise endogenously as an optimal contracting device. Our main result is that the optimality of insider protection depends crucially on the degree of innovation of the firm's activities, with insider protection being desirable only under significant innovation. For highly innovative projects, in particular, a takeover bid can be optimally rejected even when it offers a significant premium over the market price of the firm.
JEL Classification: D82, D86, G34
Suggested Citation: Suggested Citation
Rayo, Luis and Sapra, Haresh and Diaz, Miguel, Market Pressure, Control Rights, and Innovation (February 9, 2009). Chicago GSB Research Paper No. 08-01. Available at SSRN: https://ssrn.com/abstract=1161262 or http://dx.doi.org/10.2139/ssrn.1161262