Incorporation in Offshore Financial Centers:

Naughty or Nice?

Warren Bailey and Edith X. Liu *

Cornell University

22nd May 2013

Preliminary: please do not distribute

Abstract

We study associations between measures of firm value and quality and the firm’s choice

of legal and regulatory environment though incorporation in an offshore financial

center. Preliminary empirical results suggest that incorporation in such a jurisdiction, or

switching incorporation to one, is associated with lower value as measured by Tobin’s q

and poor corporate governance as measured by higher insider holdings. These effects

Vary with the quality of the firm’s home country environment and the offshore domicile

It selects.

Keywords: Offshore financial center, tax haven, law and finance, corporate governance

JEL classifications:

* Johnson Graduate School of Management, 387 Sage Hall, Ithaca NY 14850 U.S.A., (607)

255-4627, wbb1@cornell.edu; Dyson School of Applied Economics and Management, 466

Warren Hall, Ithaca, NY 14853 U.S.A., (607) 354-8308, edith.liu@cornell.edu. We thank

Andrew Karolyi, Ying Wu, and seminar participants at Shanghai Advanced Institute of

Finance and University of International Business and Economics for helpful discussions.

There is much evidence that the legal, regulatory, and disclosure environment affects firm

Value and quality. For example, Daines (2001) finds that us firms incorporated in Delaware

have higher value and are more likely to experience takeover attempts than other firms.1

Doidge, Karolyi, and Stulz (2004) find that cross listing of a non US firm in the US is

associated with a substantially higher Tobin’s q relative to non US firms that do not list in the

US.2

This evidence is interesting and important because it contributes to our understanding of

how firms select legal and regulatory environment to benefit ordinary shareholders versus

management or insiders. The objectives and workings of the environment a firm selects can

have substantial consequences.3 A firm can choose an environment that enhances its value or

signals its intention to improve. Alternatively, a firm can avoid environments that are

expensive, intrusive, and impede the ability for managers to expropriate from ordinary

shareholders (Fernandes, Lel, and Miller, 2010; Doidge, Karolyi, and Stulz, 2010). Some

jurisdictions attract incorporations with a high quality value-enhancing legal regime while

others offer weak law, regulation, and disclosure that allow management to benefit at the

expense of other owners. Furthermore, whether or not off-shore incorporation enhances firm

1

2

Bebchuk and Cohen (2003) and Subramanian (2004) find this is sensitive to the time period.

The choice of venue to incorporate can affect other corporate decisions and, thus, value. See, for example, the

1