Abstract
We find that agency problems are embedded in firm’s excess and abnormal equity investments that are mainly dictated by controlling shareholder’s motives and ethical choices manifested in ownership and board structure. The excess equity investment is gauged with respect to industry average. The abnormal equity investment is specifically referred to the number of nominal investment companies that are fully controlled by the controlling owners while subject to little governance. Our empirical evidences of 345 Taiwanese non-financial listed firms show that firm’s excess and abnormal equity investments are negatively correlated with controlling shareholder’s cash flow rights while are positively correlated with the control–cash flow deviation, and board affiliation. The results are supportive of the positive incentive hypothesis and the negative entrenchment hypothesis put forth by La Porta et al. (2002, Journal of Finance 57, 1147–1171) and Claessen et al. (2002, Journal of Finance 57, 2741–2742). The negative relation between equity investment and firm’s value further supports the agency postulation that corporate excess and abnormal equity investments represent a leeway for controlling shareholder to exploit wealth of minority shareholders. This study potentially contributes to the literature of business ethics by portraying an empirically testable linkage from controlling owner’s ethical choices to his actions and therefore firm’s value.
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Acknowledgment
We are very grateful to the anonymous referees for their insightful suggestion that greatly improved this␣article and Ming-Chien Lin for excellent research assistance. We would like to thank the helpful comments from Alex Michalos and Joanna K. C. Lam, and the participants of the World Business Ethics Forum (2006, Hong Kong and Macau). The authors would also like to thank the National Science Council of R.O.C. for financially supporting this research under Contract No. NSC 91-2416-H-030-007. Any remaining errors are our own.
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Yin-Hua Yeh, Ph.D., is Professor and Director of the Graduate Institute of Finance at Fu-Jen Catholic University (FJU) in Taiwan. He is also the Director of the Center for Corporate Governance and Business Ethics at FJU. His main research and teaching areas are corporate governance, corporate finance, and merger and acquisition.
Tsun-Siou Lee, Ph.D., is Professor of Finance at National Taiwan University. His main research and teaching areas are corporate governance, futures and options, and financial innovation.
Pei-Gi Shu, Ph.D., is Professor of Business Administration at Fu-Jen Catholic University in Taiwan. He is also the Vice Dean of Management College at FJU. His main research and teaching areas are mutual funds and behavioral finance.
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Yeh, YH., Lee, TS. & Shu, PG. The Agency Problems Embedded in Firm’s Equity Investment. J Bus Ethics 79, 151–166 (2008). https://doi.org/10.1007/s10551-007-9387-3
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DOI: https://doi.org/10.1007/s10551-007-9387-3