Corporate Governance, Agency Conflicts, and Equity Returns Along Business Cycles

47 Pages Posted: 19 Dec 2005

See all articles by Yunguang Mike Yang

Yunguang Mike Yang

University of Rochester - Simon Business School

Date Written: October 20, 2005


While strong shareholder control benefits the firm by preventing Free-Cash-Flow problems in the good state of business cycles, it is costly to the firm in exacerbating the Conflict-of-Interest problem between shareholders and creditors in the bad state. Investigating how firm financial policies change within business cycles in firms with different degrees of shareholder rights, I find an array of significant and robust empirical evidences supporting the above hypotheses with respect to firm value, debt maturity, external financing, payout and investment policies. The economic effects of these agency conflicts are significant as well. Firms with stronger shareholder rights lose significantly more investment options from the good to the bad state in business cycles. While stronger shareholder rights are associated with better accounting and equity performance in the good state, the reverse is true in the bad state of business cycles. In addition, it does not seem that market fully recognizes these varying agency effects of shareholder rights over time. An investment strategy based on the alternating benefits and costs of shareholder rights earns a significant 9.2% annual abnormal return in business cycles. Moreover, the significant abnormal returns are not explained by the existing asset pricing models. Providing a comprehensive study on the policy and economic effects of shareholder control over business cycles, this paper suggests that strong shareholder rights in governance contracting have both benefits and costs due to their varying agency implications.

Keywords: Equity Return, Corporate Governance, Agency Cost, Business Cycle, Efficient Contracting, Conditional Risk, Under Investment, Financing Cost, Payout, Debt Maturity

JEL Classification: G34, G31, G32, G35, G12, G14

Suggested Citation

Yang, Yunguang Mike, Corporate Governance, Agency Conflicts, and Equity Returns Along Business Cycles (October 20, 2005). Available at SSRN: or

Yunguang Mike Yang (Contact Author)

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States
585-275-4553 (Phone)

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