Governance under common ownership

Edmans, A, Levit, D and Reilly, D (2019) Governance under common ownership. Review of Financial Studies, 32 (7). pp. 2673-2719. ISSN 0893-9454

Abstract

Conventional wisdom is that diversification weakens governance by spreading an investor too thinly. We show that, when an investor owns multiple firms (“common ownership”), governance through both voice and exit can strengthen – even if the firms are in unrelated industries. Under common ownership, an informed investor has flexibility over which assets to retain and which to sell. She sells low-quality firms first, thereby increasing price informativeness. In a voice model, the investor’s incentives to monitor are stronger since “cutting-and-running” is less profitable. In an exit model, the manager’s incentives to work are stronger since the price impact of investor selling is greater.