Impact of corporate governance and ownership structure on reverse merger, spillover effect and dividend policy

Abstract

Corporate governance is a critical issue for decision making in any firm. In many emerging markets, including Korea, most strategic corporate decisions depend on the inclinations of the controlling shareholder. Thus, the prevalence and characteristics of the controlling shareholder affect the firm’s performance and value over its lifecycle. Moreover, controlling shareholders control one or more firms with concentrated ownership even though these may be publicly listed. This dissertation analyzes the effects of corporate governance including ownership structure on survivability, corporate policy decisions, firm value, and firm performance among Korean firms. The dissertation comprises three essays that study (i) how ownership structure affects the firm performance of reverse-merged firms, (ii) negative spillover from one group-affiliated firm to other group-affiliated firms within the same business group, and (iii) how controlling shareholders’ preferences affect the payout policy of Korean firms. The first essay examines the impact of ownership structure on the post-performance of Korean firms that go public as the result of a reverse merger. Although a reverse merger announcement has positive cumulative abnormal returns (CARs), we find that 24.8% of reverse-merged firms become delisted because of poor post-performance, seemingly due to the agency problem. We also find that expected changes in management after a reverse merger positively affect the CARs of public target firms around the time of the reverse-merger announcement. However, the post-performance of reverse-merged firms is relatively poor compared to firms that undertake regular initial public offerings. Further, we find that ownership concentration alleviates poor performance following a reverse merger. The second essay examines the negative spillover from one group-affiliated firm to other group-affiliated firms in the same business group, using credit rating downgrade announcement data in Korea. We hypothesize that the existence of controlling shareholders and internal capital markets is a major cause of the negative spillover. We find that the financial constraints of a group-affiliated firm negatively affect the value of other group affiliates. Furthermore, we show that both the parent？subsidiary relationship and the credit rating difference between a downgrade firm and its group-affiliated firms affect the extent of the negative spillover. We conclude that the structure of the business group is a key factor in understanding negative spillovers. The third essay examines how controlling shareholders’ preference affects the payout policy of Korean firms. Using a sample consisting of 7,762 firm-year observations, we find that firms with an individual controlling shareholder have lower payout ratio than firms with a non-individual controlling shareholder. Further, firms with higher direct ownership by individual controlling shareholders are reluctant to pay cash dividends. These results are consistent with the conservative payout hypothesis. An additional test indicates that business group’s group-level payout tendency influences all group-affiliated firms’ payout policy. Overall, the results indicate that controlling shareholders’ preference for cash dividends determines payout policy. The results present important implications for practitioners, academia and government policy-makers. First, the post-performance of newly listed, reverse-merged firms is relatively poor as compared to regular IPOs, and also show poor survivability. Our results provide policy implications related to the protection of reverse-merged firms against insolvency. Second, we examine the relationship between managerial structure and negative spillover within business groups. We show that the business group structure is affected by negative information about any individual firm affiliated with that group, and that the managerial and financial structures of the business group are the key determinants of the extent of the negative spillover. Third, we study the role of the controlling shareholders to adjust payout policy within the business group structure, and find that the conservative payout hypothesis provides a better explanation than the hyperbolic discounting hypothesis in firms with controlling shareholders. Overall, we find that the survival of the firm is a more important consideration for individual controlling shareholders, and the concentrated ownership structure significantly affects corporate decision making. Thus, we posit that unique corporate governance structures should be carefully considered by both academic researchers and government regulators.