Abstract
This study examines the effect of control-ownership wedge (the difference between control rights and cash flow rights) on investment efficiency. Subsequently, the authors analyze how the level of foreign investor monitoring influences the association between control-ownership wedge and investment efficiency. The results of the analyses show that investment efficiency deteriorates as control-ownership wedge increases. This, in turn, suggests that when this wedge increases, agency problems and information asymmetry between controlling and minority shareholders become more severe. The authors also perform an analysis by dividing the samples into four groups based on foreign investor ratio from the least to the greatest. The result shows that control-ownership wedge deteriorates investment efficiency in the group with the least foreign investor ratio. The result reveals that foreign investor monitoring is effective corporate governance mechanism to monitor the controlling shareholders’ investment decisions. We also find that higher control-ownership wedge with over-investment tendency negatively affects firm performance, which implies an inefficient investment behavior. This result suggests that as controlling shareholders’ ownership increases, controlling shareholders becomes more and more reluctant to assume a loss of firm value as a result of reduced investment efficiency. This study provides additional evidence that the greater control-ownership wedge decreases investment efficiency, while recent studies on the relation between control-ownership wedge and investment efficiency suggest mixed evidence. In addition, the results show that foreign investors play an effective monitoring role when controlling shareholders are in position of exercising exclusive power. The results indicate the importance of external investors’ monitoring over investment decisions. Keywords: control-ownership wedge, foreign ownership, investment efficiency, over-investment, under-investment. JEL Classification: G32, M41
Highlights
Modigliani and Miller (1958) suggest that firms invest to the point where the marginal benefits of capital investment are equal to the marginal costs of the investment in a perfect capital market
We examine the association between control-ownership wedge and investment efficiency from the perspective of agency problems between controlling shareholders and minority shareholders
We examine the effect of controlling shareholders’ ownership structure on investment efficiency with consideration of agency problems between controlling shareholders and minority shareholders
Summary
Numerous empirical studies in accounting focus on the association between control-ownership wedge and accounting information quality from an earnings management perspective. Foreign investors tend to avoid investing in an unfamiliar market and in firms with low foreign investor ownership, where they expect excessive information cost and monitoring cost which result in inefficient corporate governance (Cooper and Kaplanis, 2000). A number of literature find that foreign investors play an effective internal monitoring role in business decisions, which decrease information asymmetry and increase accounting information quality (Jiang and Kim, 2002; Ahn at al., 2005; Oh and Sohn, 2006; Kim and Kim, 2007). We make an additional contribution in that we use multi-period Korean samples, incorporating these improvements in the legal and institutional environment
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