Disproportional Control Rights and the Governance Role of Debt

Management Science, Forthcoming

58 Pages Posted: 29 Apr 2015

See all articles by Aiyesha Dey

Aiyesha Dey

Harvard Business School

Valeri V. Nikolaev

University of Chicago Booth School of Business

Xue Wang

Ohio State University - Fisher College of Business

Date Written: March 2015

Abstract

We examine the governance role of debt in the context of US-based dual class ownership structures. We hypothesize that the use of debt alleviates the conflict between shareholder classes by balancing the power of controlling insiders. We document that dual class firms have higher leverage and a greater propensity to issue private debt; they also more frequently use cash sweeps and performance-based covenants. Dual class firms with greater agency conflicts and a greater need to access the capital market appear to rely more extensively on debt. These findings are consistent with controlling insiders bonding against the agency costs associated with dual class ownership. The governance role of debt is further corroborated by the valuation effect of debt for dual class companies. Private debt issuances trigger greater positive market reactions to the inferior dual class stock in relation to both the superior dual class stock and a matched sample of single class firms. Further, leverage attenuates the previously documented adverse effect of dual class status on Tobin’s Q. Taken together, our analyses suggest that dual class firms use debt as a complementary governance mechanism.

Keywords: dual class; capital structure; relationship lending; debt covenants

JEL Classification: G30; G38; M41

Suggested Citation

Dey, Aiyesha and Nikolaev, Valeri V. and Wang, Xue, Disproportional Control Rights and the Governance Role of Debt (March 2015). Management Science, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2600111

Aiyesha Dey (Contact Author)

Harvard Business School ( email )

Soldiers Field Road
Morgan 270C
Boston, MA 02163
United States

Valeri V. Nikolaev

University of Chicago Booth School of Business ( email )

5807 South Woodlawn Avenue
Chicago, IL 60637
United States

HOME PAGE: http://faculty.chicagobooth.edu/valeri.nikolaev/index.html

Xue Wang

Ohio State University - Fisher College of Business ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States
614-688-1330 (Phone)
614-292-2118 (Fax)

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