Limited liability and share transferability: An analysis of California firms, 1920–1940

Leonce Bargeron, Kenneth Lehn

Research output: Contribution to journalArticlepeer-review

2 Scopus citations

Abstract

In 1931, California became the last U.S. state to adopt limited liability. Prior to that, from its inception as a state in 1849, stockholders of California corporations faced pro rata unlimited liability. California's unique liability rule during 1849–1931 provides a natural experiment for testing Woodward's (1985) and Alchian and Woodward's (1987, 1988) hypothesis that limited liability reduces transaction costs and facilitates the transferability of shares. Using a small sample of publicly traded California firms and a corresponding sample of benchmark companies, we find that trading volume and share turnover were significantly lower for California firms when California had unlimited liability. After California adopted limited liability, trading volume and share turnover increased significantly for California firms relative to non-California firms. In addition, bid–ask spreads were significantly higher for California firms during the period of unlimited liability and they declined for California firms relative to non-California firms after California adopted limited liability. The results support Alchian and Woodward's hypothesis that limited liability reduces transaction costs and promotes the transferability of shares.

Original languageEnglish
Pages (from-to)451-468
Number of pages18
JournalJournal of Corporate Finance
Volume44
DOIs
StatePublished - Jun 2017

Keywords

  • Corporate law
  • Limited liability
  • Trading volume

ASJC Scopus subject areas

  • Business and International Management
  • Finance
  • Economics and Econometrics
  • Strategy and Management

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