60 Pages Posted: 24 Oct 2005
Date Written: August 2004
Recent corporate scandals have raised considerable concern among regulators and stock market participants about related party transactions (RPTs), prompting Sarbanes-Oxley (SOX) to prohibit personal loans to executives and non-executive board members. In a representative sample of companies for a period that predates SOX, we find RPTs are wide spread and involve equally executives and non-executive board members; additionally, the proportion of related party loans is smaller than other non-loan related party transactions such as purchases or direct services. When we examine the relationship between RPTs and the extant literature's corporate governance mechanisms (such as board characteristics, CEO pay-performance sensitivity, and outside monitors), we generally find weaker corporate governance mechanisms associated with more and higher dollar amounts of RPTs. We also find that industry-adjusted returns are negatively associated with RPTs. On further examination of loans versus other types of RPTs not considered in SOX, we find a negative relationship between industry-adjusted returns and the number and dollar amount of loans to executives and non-executive directors, and a similar relationship between the number of other types of RPTs with non-executive directors. In summary, our results provide support for the view of RPTs as conflicts of interest between managers/board members and their shareholders, in contrast with the view of RPTs as efficient transactions.
Suggested Citation: Suggested Citation
Gordon, Elizabeth A. and Henry, Elaine and Palia, Darius, Related Party Transactions: Associations with Corporate Governance and Firm Value (August 2004). EFA 2004 Maastricht Meetings Paper No. 4377; AFA 2006 Boston Meetings Paper. Available at SSRN: https://ssrn.com/abstract=558983 or http://dx.doi.org/10.2139/ssrn.558983
By John Kroger