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Using a comprehensive sample of equity-linked private securities offerings by Korean firms from 1989 to 2000, we examine whether such offerings can be used as a mechanism for wealth transfer between issuers and acquirers. For deals involving issuers and acquirers in the same business group (chaebol), the announcement returns for chaebol-affiliated issuers with good past performance are lower than those for other types of issuers if the price discount is larger. In contrast, this deal leads to more value creation for chaebol-affiliated acquirers than other types of acquirers. Furthermore, well-performing chaebolaffiliated acquirers experience a larger wealth loss than other types of acquirers if they buy securities from poorly performing issuers in the same chaebol. We also find that chaebol firms with good past performance tend to sell private securities at a low price to their member firms. This evidence is consistent with tunneling within business groups. Korean business groups typically lose out from their acquisitions, but that the controlling shareholders gain from the same deals. These results are consistent with the existence of tunneling among firms belonging to business groups.In this paper, we extend this literature by providing direct evidence of tunneling among group firms. To gain a better understanding of tunneling from a different perspective than those found inthe existing literature, we analyze the valuation effect and the pricing of equity-linked private securities offerings by Korean firms from 1989 to 2000. Our objective is to examine the extent to which firm value is related to the controlling shareholder's incentive to carry out tunneling. Unlike previous studies, we focus on the financing decisions of group-affiliated firms, not on their investment decisions. We study the private financing activities of group firms because they represent a setting where interests of controlling and minority shareholders frequently diverge; thus, 1 tunneling could be a major motivation behind some of these activities. To the extent that tunneling takes place in a subtle way and is hard to detect, our focus on private issues also increases the possibility of detecting the relation between tunneling and firm value. For example, private issues tend to draw less attention from stock market investors and regulatory agencies because they essentially view such issues as a private matter. Therefore, the incentive for controlling shareholders to tunnel tends to increase with these issues, which makes the tests for exploring the extent of tunneling activity around private securities offerings more powerful and convincing. Private securities offerings (PSOs) can also involve several interesting forms of tunneling, such as dilutive share issues that discriminate against minority shareholders, deep discount issues to benefit controlling shareholders, issuing securities at inflated prices by poorly performing firms to wellperforming firms in the same group, etc. 2 This variety provides a rich setting for the inve...

Using a comprehensive sample of equity-linked private securities offerings by Korean firms from 1989 to 2000, we examine whether such offerings can be used as a mechanism for wealth transfer between issuers and acquirers. For deals involving issuers and acquirers in the same business group (chaebol), the announcement returns for chaebol-affiliated issuers with good past performance are lower than those for other types of issuers if the price discount is larger. In contrast, this deal leads to more value creation for chaebol-affiliated acquirers than other types of acquirers. Furthermore, well-performing chaebolaffiliated acquirers experience a larger wealth loss than other types of acquirers if they buy securities from poorly performing issuers in the same chaebol. We also find that chaebol firms with good past performance tend to sell private securities at a low price to their member firms. This evidence is consistent with tunneling within business groups. The widespread use of pyramid ownership structures and cross-holdings among firms belonging to a business group allows controlling shareholders to exercise full control over a firm despite holding a relatively small portion of its cash flow rights. 1 This divergence between ownership and control raises concerns of tunneling -that controlling shareholders of the business group have strong incentives to siphon resources out of firms to increase their wealth (Johnson, La Porta, Lopez-de-Silanes, and Shleifer, 2000). Although tunneling creates a severe agency problem between controlling and minority shareholders and imposes a serious friction on the efficient functioning of a capital market, systematic evidence of its existence is scarce. One notable exception is the study of Bertrand, Mehta, and Mullainathan (2002), who use a sample of 18,600Indian firms during the period 1989 to 1999 to examine tunneling in pyramidal ownership structures of business groups. They show that the ultimate owners of the pyramids have strong incentives to divert resources from firms low down in the pyramid towards ones high up in the pyramid. In a similar vein, Bae, Kang, and Kim (2002) find that minority shareholders of firms within the top 30Korean business groups typically lose out from their acquisitions, but that the controlling shareholders gain from the same deals. These results are consistent with the existence of tunneling among firms belonging to business groups.In this paper, we extend this literature by providing direct evidence of tunneling among group firms. To gain a better understanding of tunneling from a different perspective than those found in the existing literature, we analyze the valuation effect and the pricing of equity-linked private securities offerings by Korean firms from 1989 to 2000. Our objective is to examine the extent to which firm value is related to the controlling shareholder's incentive to carry out tunneling. Unlike previous studies, we focus on the financing decisions of group-affiliated firms, not on their investment decisions. We s...

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