5.2 Transactions involving controlling shareholders

Conflicted transactions by controlling shareholders raise many of the same concerns that attend interested transactions by corporate managers. In both cases the danger is that an insider will misuse power over the firm's decisions to extract private gains unavailable to shareholders in general. Nevertheless, the agency issues that underlie these two categories of suspect transactions differ in important ways.

Unlike managers, controlling shareholders often invest heavily in their companies, and therefore have a strong financial interest in their performance.106 Moreover, controlling shareholders often avoid formal responsibility for managing their companies, and thus escape the specific obligations of a corporate agent or representative. But lastly, whatever their other formal powers, controlling shareholders are likely to exercise far more influence over corporate affairs than anyone else, by virtue of their power to nominate board members.

102 See supra 4.2.

103 Note that it is not only creditors that sue post-insolvency. First, shareholders and their attorneys

have an interest to bring derivative suits when they have priority rights over the amount recovered.

Second, insolvency may result in administrative and criminal investigations, especially in France and

the UK.

I(M Sec Symposium, Norms and Corporate Law, 149 UNIVERSITY OF PENNSYLVANIA LAW REVIEW 1607 (2001); Melvin A. Eisenbcrg, Corporate Law and Social Norms, 99 COLUMBIA LAW REVIEW 1253 (1999).

105 See Luca Enriques, The Comparative Anatomy of Related Party Transactions Law 14 (Working Paper 2003).

I0* An exception arises when controlling shareholders hold a majority of voting rights in a firm but only a minority of the claims on its cash flows, as happens with pyramid-like voting structures, cross-shareholdings or high vote/low vote shareholding structures. See Lucian A. Bebchuck, Reinier Kraakman and George G. Triantis, Stock Pyramids, Cross-Ownership, and Dual Class Equity, in Randall K. Morck (ed.), CONCENTRATED CORPORATE OWNERSHIP 295 (2000); Repon of the High Level Group of Company Law Experts on a Modem Regulatory Framework for Company Law in Europe 98-9 {November 2002, available at europa.eu.int).

Internationally, controlled companies are the norm.107 Although every EU jurisdiction can boast a few widely held pubUc companies {usually their very largest), a majority of large companies are widely held without a controlling shareholder only in the U.S. and UK. Even in these jurisdictions, moreover, smaller companies are likely to have a controlling shareholder or shareholder group. Thus, the problem of regulating conflicted transactions by controlling shareholders is pervasive. It is also integral to corporate groups, which, as we have seen in Chapter 4, are a common form of industrial organization through continental Europe.108 Thus, the regulation of intra-group transactions by Germany's Konzernrecht is as much concerned with minority shareholder protection as it is with the creditor protection concerns addressed in Chapter 4.109

As with conflicted managers, no jurisdiction bans transactions between companies and controlling shareholders. Their potential value is too great—as, for example, the frequency of corporate groups and parent-subsidiary structures suggests. Instead, major jurisdictions regulate these transactions with all of the same strategies they employ to police managerial transactions, either by treating controlling shareholders as 'de facto directors' or, more simply, by providing for the separate regulation of conflicted shareholder transactions. In addition, our jurisdictions deploy two novel legal strategies against controlling shareholders: namely, the rewards strategy and the exit strategy (in the form of dissolution rights).