Private Contracting and Corporate Governance: Evidence from the Provision of Tag-along Rights in Brazil

The authors identify two opposing effects of issuing equity with tag-along rights that secure an equal price in the event of a takeover. First, the anti-self dealing effect commits controlling owners to sell only to new owners that increase shareholder value. Second, the rent transfer effect shifts rents to existing unprotected minority owners. The institutional setting in Brazil's stock market allows to test this trade-off. The authors find that announcements of tag-along rights are associated with an average cumulative abnormal return of around 5%, and that the probability of issuing shares with tag-along rights increases with the cost of self-dealing and decreases in the share of existing unprotected minority investors. Overall, the analysis confirms that private contracting can mitigate the economic costs associated with the inadequate legal protection of investors in emerging markets.