Does Wedge Size Matter? Financial Reporting Quality and Effective Regulation of Dual-Class Firms

A dual-class capital structure creates a gap (“wedge”) between voting rights and cash flow rights. However, the intense policy debate over the desirability of this capital structure does not consider the size of the wedge. The results of our analysis indicate that a larger wedge is correlated with “older,” smaller, more profitable, and less leveraged firms and a higher quality of reporting. The findings suggest that increasing management’s insulation from market pressures may reduce the motivation to manipulate earnings. Therefore, with respect to financial reporting, a nuanced regulation restricting the size of the wedge may not be more effective