Enrique Schroth

The Value of Control and the Costs of Illiquidity

An inherent difficulty in valuing controlling blocks of shares is the illiquidity of the market. We explore the pricing implications associated with the illiquidity of controlling blocks of shares in the context of a search model of block trades. The model considers several dimensions of illiquidity. First, following a liquidity shock, the controlling blockholder is forced to sell, possibly to a less efficient acquirer. Second, this sale may occur at a fire sale price. Third, absent a liquidity shock, a trade occurs only if a potential buyer arrives. We use a structural estimation approach and U.S. data on trades of controlling blocks of public corporations to identify these dimensions of illiquidity. We obtain estimates of counter-factual valuations that would result in the absence of illiquidity that are used to measure the blockholders’ marketability discount and the dispersed shareholders’ illiquidity-spillover discount.

The Determinants of the Block Premium and of Private Benefits of Control

We study the determinants of private benefits of control in negotiated block transactions. We estimate the block pricing model in Burkart, Gromb, and Panunzi (2000) explicitly dealing with the existence of both block premia and block discounts in the data. We find evidence that the occurrence of block premia and block discounts depends on the controlling block holders ability to fight a potential tender offer for the targets stock. Private benefits represent 3% of the target firms stock market value. Private benefits increase with the targets cash holdings and decrease with its short term debt providing evidence in favor of Jensens free cash flow hypothesis. A counterfactual policy evaluation of the Mandatory Bid Rule suggests that it fails to add value to shareholders because it fails to prevent welfare decreasing transactions and, by forcing inefficient tender offers, it deters welfare increasing transactions.

The Welfare Gains and Diffusion of Corporate Finance Innovations

This paper measures the gains accrued to financing firms as new corporate products are created. Innovations in corporate products increase the choice set and make the underwriting market more competitive. The resulting gains are measured using estimates of a structural model of the choice between different varieties of innovative and standard securities across time. The estimation method handles two major challenges: that underwriting fees of non chosen varieties are unobservable, and that the observed ones are endogenous. I address these problems with a price-setting equation derived from the underwriters profit maximization problem. The estimates show that innovation introduces large average gains of up to

Transitory Versus Permanent Shocks: Explaining Corporate Savings and Investment

4.66 million per financing firm. Underwriting markups fall as the choice set grows, from about 50% on average to 10%.

Quantifying Private Benefits of Control from a Structural Model of Block Trades

Theory has recently shown that corporate policies should respond differently to permanent or transitory cash flow shocks. We devise a novel filter to decompose cash flow shocks into permanent and transitory components. The policy choices of large publicly traded U.S. firms, such as cash holdings, credit line usage, and equity issuance, are related to the characteristics of the shocks estimated by our filter, i.e., volatilities, correlation and drift rates of the permanent and transitory shocks, as predicted by theory. Moreover, the interaction between the permanent and transitory cash flow shocks is strongly related to a firm’s leadership status within its industry.