Ownership Structure and Debt Leverage: Empirical Test on French

Abstract

Debt is traditionally analyzed as disciplinary in the shareholders-manager conflict. It is less commonly analyzed in relation to controlling and outside shareholders. This paper shows that the joint problematics of ownership, private benefits and debt leverage are linked in a framework of financial governance. At the same time, debt helps to manage the conflict because it may be easier for the controlling shareholders to modify the leverage ratio than to modify his share of capital. A model shows that debt appears as a key governance variable as it can moderate private benefits or, conversely, may help diversion. The entrenchment effect and the fear for failure may explain the impact of debt. The existence of self-limited appropriation logics is highlighted as well as the importance of the information policy adopted by the controlling shareholders. In this paper, we test a possible non-linear relation between shareholders ownership and leverage. Using a sample of 118 French listed firms over the period 1998-2002, our results show that controlling shareholders ownership is linked with debt at different stage. At low levels of ownership, controlling shareholders use more debt in order to inflate their stake in capital and resist to unfriendly takeovers attempts. When ownership reaches a certain point, controlling shareholders' objectives converge further to those of outside shareholders. Moreover, the fear of financial distress will prompt controlling shareholders to reduce the firm's leverage ratio.