Optimally Restrained Tunneling: The Puzzle of Controlling Shareholders’ ‘Generous’ Exploitation in Bad-Law Jurisdictions

In a chapter of the book ‘The Law and Finance of Related Party Transactions’ (L Enriques and T Tröger eds, CUP 2019), I explain why some controlling shareholders in bad-law jurisdictions ‘generously’ tunnel corporate value at the sacrifice of minority shareholders. This chapter is an abridged version of my article, ‘‘Generous Thieves’: The Puzzle of Controlling Shareholder Arrangements in Bad-Law Jurisdictions’, which previously appeared in the Stanford Journal of Law, Business and Finance. The following summary of the chapter is based on the original article’s abstract. 

Although controlling shareholder agency problems have been well studied so far, many questions remain unanswered. In particular, an important puzzle in bad-law jurisdictions is: why some controlling shareholders (‘roving controllers’) loot all (or substantially all) corporate assets at once, and why others (‘stationary controllers’) siphon off a part of corporate assets on a continuous basis. To solve this conundrum, I provide analytical frameworks exploring the behavior and motivations of controlling shareholders.

To begin with, I reinterpret a political economy theory of ‘banditry’ in the context of corporate governance in developing countries. Based on a new taxonomy of controlling shareholders (‘roving controllers’ and ‘stationary controllers’), I examine under what circumstances a controlling shareholder chooses to be roving or stationary, and why economically rational controlling shareholders with a long time horizon voluntarily abstain from looting minority shareholders. In addition, although I recognize family corporations’ weaknesses in terms of investor protection, I explain that controlling ‘family’ shareholders tend to be stationary, and thus improve the quality of corporate governance. Moreover, I explain that a controlling shareholder’s nonpecuniary benefits (ie the psychological value gained by corporate insiders when running a business) can potentially lower the level of expropriation from public shareholders.

Sang Yop Kang is a Professor of Law at Peking University School of Transnational Law.