How does law affect finance? An examination of equity tunneling in Bulgaria

• Published in: Journal of financial economics Vol. 96; no. 1; pp. 155 - 173
• Main Authors: Atanasov, Vladimir, Black, Bernard, Ciccotello, Conrad, Gyoshev, Stanley
• Format: Journal Article
• Language: English
• Published: Amsterdam Elsevier B.V 01.04.2010; Elsevier; Elsevier Sequoia S.A
• Series: Journal of Financial Economics
• Subjects: Bulgaria; Capital market; Controlling shareholder; Dilution; Emerging markets; Equity; Equity tunneling; Equity tunneling Preemptive rights Dilution Freezeout Controlling shareholder Securities law Emerging markets; Firm value; Freezeout; Legislation; Political economy; Preemptive rights; Risk; Securities issues; Securities law; Securities regulations; Stock offerings; Stock prices; Stockholders; Studies; Valuation; Bulgaria; Dilution; Equity tunneling; Freezeout; G32; Emerging markets; G34; Preemptive rights; K22; Controlling shareholder; Securities law
• ISSN: 0304-405X; 1879-2774
• DOI: 10.1016/j.jfineco.2009.12.005

We model and test the mechanisms through which law affects tunneling and tunneling affects firm valuation. In 2002, Bulgaria adopted legal changes which limit equity tunneling through dilutive equity offerings and freezeouts. Following the changes, minority shareholders participate equally in equity offerings, where before they suffered severe dilution; freezeout offer price ratios quadruple; and Tobin's q rises sharply for firms at high risk of tunneling. The paper shows the importance of legal rules in limiting equity tunneling, the role of equity tunneling risk as a factor in determining equity prices, and substitution by controlling shareholders between different forms of tunneling.