Michal Barzuza is Caddell & Chapman Professor of Law at University of Virginia School of Law. This post is based on her recent paper.
One-size-does-not-fit-all in corporate law and governance. But do firms really choose their right “size” of governance as conventional wisdom holds? That one-size-does-not-fit-all is frequently used to object mandatory corporate law and other sorts of intervention, such as proxy advisory firms’ voting recommendations, which presumably interfere with firms’ tailoring governance arrangements to their specific needs. Surprisingly, this assumption has not been systematically assessed against available evidence, incorporated rigorously to corporate law theory, or thought through carefully.
My paper argues that not only that firms do not always choose their right size, but firms that need governance the most are frequently less likely to self-constraint (Resisting Firms). The need for governance arises when alternative constrains, such as disciplining market forces, are weak. The lack of alternative constraints, however, could be the very reason why managers might be reluctant to voluntarily adopt these terms. Furthermore, if differences among firms are not observable by outsiders, IPO pricing might not provide sufficient incentives either. Governance terms should add high premium to firms that face weak market forces. If, however, managers have more information than investors on the particular constraints they face, investors would pay only an average value for governance terms. As a result, due to adverse selection at the IPO, firms that could benefit most from governance constraints might not adopt them. This paper’s first contribution thus is to develop a comprehensive theory of corporate law and heterogeneity.
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