One Share-One Vote is Unenforceable and Sub-Optimal

Abstract

In the presence of derivative markets, shareholders can choose their desired mix of cash-flows/votes and vary it through time. We find that the optimal security-voting structure is time varying. Even in the presence of derivatives, most of the time, shareholders optimally choose 1S1V. 1S1V turns out to be the socially as well as privately optimal choice for the majority of the life-cycle of the firm. However, when faced with a control contest shareholders optimally deviate from 1S1V. Shareholders use synthetic stocks to change their per vote exposure to cash flows and force the winning team to pay them its entire surplus. This flexibility to deviate from 1S1V when needed increases the market value of the firm. We show that during the control contest, the difference between the price of the stock and the synthetic stock provides a measure of the private benefits of control.