Legal personality affirmative asset partitioning

1
Legal personality (affirmative asset
partitioning)
Corporate assets
shareholders

• Priority
• Liquidation protection
• (strong form)

X
Corporate creditors
Shareholders creditors
2
Capital structure
Total assets
Debt
More risk
Common stock
3
Leverage and MM
MM Beta and value of equity depend on how much
of assets are committed to creditors. So 1.
All-equity firm 1.2 million. 2. If
capitalized at 10, expected to earn 120,000.
3. If creditors have claim on first 60,000, and
shareholders on second 60,000, creditors might
accept 9, or a capitalizer of 11, so investment
worth 660,000. 4. Equity therefore worth
540,000, for a capitalizer of 9. 5. If
risk-preferring investors will pay 550,000 for
stock, firm is worth 1,210,000. 5. But they
could have bought the firm for 1,200,000 and
borrowed 660,000 (home made leverage). 6.
Qualifications agency costs, transaction costs,
taxes.
4
Limited liability(defensive asset partitioning)
Corporate assets
Shareholders (including parent corporations)
X
Corporate creditors
Shareholders creditors
5
Capital structure unlimited liability
Total assets
Debt
Common stock
Shareholder assets
6
Benefits of limited liability

• Free transferability
• Diversification
• Efficient market
• Risk-bearing
• Monitoring
• Decision-making

7
Tort limited liability

• Externalization problem
• Responses to externalization
• Problems of mandating limited liability
• Jurisdictional competition
• Arbitrage

8
Limited liability issues

• Closely held firms
• Contracting for limited liability
• Limited liability and business forms
• Default limited liability
• Veil piercing
• Reverse limited liability

9
Veil-piercing Walkovszky
Carlton
10
Asset securitization
Operating Company
Lease
Oil company
11
Reverse limited liability
Assets (e.g. house)
LLC
Tortfeasor (e.g., doctor)
Victim