Corner office
Political connections and SEC enforcement
Maria Correia
Journal of Accounting and Economics, April–May 2014, Pages 241–262
Abstract:
In this study, I examine whether firms and executives with long-term political connections through contributions and lobbying incur lower costs from the enforcement actions by the Securities and Exchange Commission (SEC). I find that politically connected firms on average are less likely to be involved in SEC enforcement actions and face lower penalties if they are prosecuted by the SEC. Contributions to politicians in a strong position to put pressure on the SEC are more effective than others at reducing the probability of enforcement and penalties imposed by an enforcement action. Moreover, the amounts paid to lobbyists with prior employment links to the SEC, and the amounts spent on lobbying the SEC directly, are more effective than other lobbying expenditures at reducing enforcement costs faced by firms.
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Tailspotting: Identifying and profiting from CEO vacation trips
David Yermack
Journal of Financial Economics, forthcoming
Abstract:
This paper shows connections between chief executive officers’ (CEOs’) absences from headquarters and corporate news disclosures. I identify CEO absences by merging records of corporate jet flights and CEOs’ property ownership near leisure destinations. CEOs travel to their vacation homes just after companies report favorable news, and CEOs return to headquarters right before subsequent news releases. When CEOs are away, companies announce less news, mandatory disclosures occur later, and stock volatility falls sharply. Volatility increases when CEOs return to work. CEOs spend fewer days out of the office when ownership is high and when weather is bad at their vacation homes.
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Class Action Lawsuits and Executive Stock Option Exercise
Daniel Bradley, Brandon Cline & Qin Lian
Journal of Corporate Finance, August 2014, Pages 157–172
Abstract:
In a large sample of shareholder initiated class action lawsuits from 1996 to 2011, we find a significant increase in informed insider option exercises during the class action period compared to the preceding quarter, and we find this change is positively related to the probability of litigation. The market reaction to the announcement of lawsuits is negatively related to abnormal informed option exercises, but positively related to suits that ultimately get dismissed. These results suggest that the market can at least partially anticipate the merits and severity of the class action suit. In subsequent analyses, we find CEO turnover is positively related to litigation, but not option exercises. Collectively, our results indicate that insiders knowingly trade on their private information.
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Adam Wowak, Michael Mannor & Kaitlin Wowak
Strategic Management Journal, forthcoming
Abstract:
Stock options are thought to align the interests of CEOs and shareholders, but scholars have shown that options sometimes lead to outcomes that run counter to what they are meant to achieve. Building on this research, we argue that options promote a lack of caution in CEOs that manifests in a higher incidence of product safety problems. We also posit that this relationship varies across CEOs, and that the effect of options will depend upon CEO characteristics such as tenure and founder status. Analyzing product recall data for a large sample of FDA-regulated companies, we find support for our theory.
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The Hidden Nature of Executive Retirement Pay
Robert Jackson & Colleen Honigsberg
Virginia Law Review, forthcoming
Abstract:
There are two competing theories of why public companies pay executives generous retirement benefits. One is that retirement pay is easier to hide from shareholders than other forms of compensation. The other is that retirement benefits align executives' interests with those of long-term creditors, since the executives may not receive their payouts if the firm goes bankrupt. The latter view depends on the assumption that retirement benefits put executives in a similar contractual position as the company's creditors. Yet no previous work has tested that assumption. This Article provides the first systematic study of the contractual structure of executive retirement payouts. Using retirement pay data for thousands of executives, we show that a large proportion of executives link the value of their payouts to the company's stock price and receive the bulk of these payouts immediately following their departure -- features that contradict the incentive-alignment theory of retirement pay. The evidence also shows that the full amount and structure of retirement pay are undisclosed -- findings consistent with the camouflage theory. While the structure of some executives' payouts can be reconciled with the incentive-alignment theory, current rules do not give investors the information they need to tell the difference between payouts that align incentives and those that camouflage compensation. Lawmakers should require companies to reveal the magnitude and structure of these payouts, and neither regulators nor commentators should assume that retirement benefits suppress top managers' appetite for risk.
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Do Managers Tacitly Collude to Withhold Industry-Wide Bad News?
Jonathan Rogers, Catherine Schrand & Sarah Zechman
University of Chicago Working Paper, March 2014
Abstract:
That managers would choose to withhold firm-specific bad news is not only intuitive, but supported by theory, observed disclosure patterns, and survey responses. When the bad news is industry wide, however, managers are subject to additional pressure to disclose. If any one firm chooses to disclose, traders infer signal arrival and capital market pressure will force withholding firms to disclose. In addition, the costs of being the second mover are greater for industry-wide news. However, if managers anticipate that the adverse news could improve or never materialize, they should prefer to withhold to avoid presumably costly stock return volatility. But withholding is only sustainable if all firms cooperate (“tacitly collude”). We document cases of increased intra-industry obfuscation in the annual 10-K, controlling for changes in fundamentals, consistent with intra-industry cooperation to withhold adverse news. Coordinated withholding is more likely in industries that are more likely to have large, correlated, negative shocks, industries with more significant equity incentives, and greater litigation risk and less likely in industries in which observable/public macro-economic data relevant to firm valuation is available. The results have implications for understanding when economic forces are sufficient to generate voluntary disclosure of industry-wide adverse news.
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D&O Insurance and IPO Performance: what can we learn from insurers?
Martin Boyer & Léa Stern
Journal of Financial Intermediation, forthcoming
Abstract:
We investigate whether a firm’s directors’ and officers’ liability insurance contract at the time of the IPO is related to insured firms’ first year post-IPO performance. We find that insurers charge a higher premium per dollar of coverage to protect the directors and officers of firms that will subsequently have poor first year post-IPO stock performance. A higher price of coverage is also associated with a higher post-IPO volatility and lower Sharpe ratio. Our results are robust to various econometric specifications and suggest that even when the high level of information asymmetry inherent to the IPO context prevails, insurers have information about the firms’ prospects that should be valuable to outside investors.
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Distracted directors: Does Board Busyness Hurt Shareholder Value?
Antonio Falato, Dalida Kadyrzhanova & Ugur Lel
Journal of Financial Economics, forthcoming
Abstract:
We use the deaths of directors and chief executive officers as a natural experiment to generate exogenous variation in the time and resources available to independent directors at interlocked firms. The loss of such key co-employees is an attention shock because it increases the board committee workload only for some interlocked directors — the ‘treatment group.’ There is a negative stock market reaction to attention shocks only for treated director-interlocked firms. Interlocking directors’ busyness, the importance of their board roles, and their degree of independence magnify the treatment effect. Overall, directors’ busyness is detrimental to board monitoring quality and shareholder value.
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CEO Ideology as an Element of the Corporate Opportunity Structure for Social Activists
Forrest Briscoe, M.K. Chin & Donald Hambrick
Academy of Management Journal, forthcoming
Abstract:
In an effort to comprehend activism toward corporations, scholars have proposed the concept of corporate opportunity structure, or the attributes of individual firms that make them more (or less) attractive as activist targets. We theorize that the personal values of the firm's elite decision makers constitute a key element of this corporate opportunity structure. We specifically consider the political ideology, or conservatism vs. liberalism, of the company's CEO as a signal for employees who are considering the merits of engaging in activism. As an initial test of our theory, we examine the formation of LGBT employee activist groups in Fortune 500 companies in the period 1985-2005, during which the formation of such groups was generally perceived to be risky for participants. Using CEOs' records of political donations to measure their personal ideologies, we find strong evidence that the political liberalism of CEOs influences the likelihood of activism. We also find that CEOs' ideologies influence activism more strongly when CEOs are more powerful, when they oversee more conservative (i.e. less liberal) workplaces, and when the social movement is in the early phase of development. In supplemental analyses, we examine instances of recent CEO succession, showing that a new CEO's liberalism relative to the predecessor CEO especially heightens the likelihood of activism. Our theory and findings contribute to research on social movements, corporate stakeholders, and upper echelons. We identify promising future research opportunities in each of those areas.
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Mary-Hunter McDonnell, Brayden King & Sarah Soule
Georgetown University Working Paper, May 2014
Abstract:
This project explores whether and how corporations become more receptive to social activist challenges over time. Drawing from social movement theory, we suggest a dynamic process through which contentious interactions lead to increased receptivity. First, a company's prior responses to activist challenges shape the likelihood that it will be targeted by future activists. When firms are targeted, they respond defensively to these attacks by adopting strategic management devices that help them better manage social issues. Finally, these defensive devices empower independent monitors and increase corporate accountability, which in turn increases a firm's receptivity to future activist challenges. We test our theory using a unique longitudinal dataset that tracks contentious attacks and the adoption of social management devices among a population of 300 large firms from 1991-2009.
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Capital Gains Lock-In and Governance Choices
Stephen Dimmock et al.
NBER Working Paper, May 2014
Abstract:
Because of differences in accrued gains and investors’ tax-sensitivity, capital gains “lock-in” varies across mutual funds even for the same stock at the same time. Using this variation, we show that tax lock-in affects funds’ governance decisions. Higher tax lock-in decreases the likelihood a fund sells a stock prior to contentious votes, and increases the likelihood the fund votes against management. Consistent with tax motivations, these findings are concentrated among funds with tax-sensitive investors. High aggregate capital gains across funds holding a stock predicts a higher likelihood management loses a vote and a lower likelihood a contentious vote is proposed.
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Fee pressure and audit quality
Michael Ettredge, Elizabeth Emeigh Fuerherm & Chan Li
Accounting, Organizations and Society, May 2014, Pages 247–263
Abstract:
This study investigates the association of audit fee pressure with an inverse measure of audit quality, misstatements in audited data, during the recent recession. Fee pressure in a year is measured as the difference between benchmark “normal” audit fees and actual audit fees. We find fee pressure is positively and significantly associated with accounting misstatements in 2008, the center of the recession. Our results suggest that auditors made fee concessions to some clients in 2008, and that fee pressure was associated with reduced audit quality in that year.
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On the Importance of Golden Parachutes\
Eliezer Fich, Anh Tran & Ralph Walkling
Journal of Financial and Quantitative Analysis, December 2013, Pages 1717-1753
Abstract:
In acquisitions, target chief executive officers (CEOs) face a moral hazard: Any personal gain from the deal could be offset by the loss of the future compensation stream associated with their jobs. Larger, more important parachutes provide greater relief for these losses. To explicitly measure the moral hazard target CEOs face, we standardize the parachute payment by the expected value of their acquisition-induced lost compensation. We examine 851 acquisitions from 1999–2007, finding that more important parachutes benefit target shareholders through higher completion probabilities. Conversely, as parachute importance increases, target shareholders receive lower takeover premia, while acquirer shareholders capture additional rents from target shareholders.
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Do Going-Private Transactions Affect Plant Efficiency and Investment?
Sreedhar Bharath, Amy Dittmar & Jagadeesh Sivadasan
Review of Financial Studies, forthcoming
Abstract:
We examine whether constraints on public firms affect firms' efficiency by testing if going private improves plant-level productivity relative to peer control groups. We find that, despite increases in productivity after going private, there is little evidence of efficiency gains relative to peer groups of plants constructed to control for industry, age, size, past productivity, and the endogeneity of the going-private decision. Going-private firms do extensively restructure their portfolio of plants, selling and closing plants more quickly than others. Our findings cast doubt on the view that public markets cause listed firms to operate plants less efficiently due to overinvestment but indicate that going private increases restructuring activity.
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CEO Duality and Firm Performance: Evidence from an Exogenous Shock to the Competitive Environment
Tina Yang & Shan Zhao
Journal of Banking & Finance, forthcoming
Abstract:
Regulators and governance activists are pressuring firms to abolish CEO duality (the Chief Executive Officer is also the Chairman of the Board). However, the literature provides mixed evidence on the relation between CEO duality and firm performance. Using the exogenous shock of the 1989 Canada-United States Free Trade Agreement, we find that duality firms outperform non-duality firms by 3-4% when their competitive environments change. Further, the performance difference is larger for firms with higher information costs and better corporate governance. Our results underscore the benefits of CEO duality in saving information costs and making speedy decisions.
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Eric Hilt
NBER Working Paper, May 2014
Abstract:
This paper analyzes the use of the corporate form among nineteenth-century manufacturing firms in Massachusetts, from newly collected data from 1875. An analysis of incorporation rates across industries reveals that corporations were formed at higher rates among industries in which firm size was larger. But conditional on firm size, the industries in which production was conducted in factories, rather than artisanal shops, saw more frequent use of the corporate form. On average, the ownership of the corporations was quite concentrated, with the directors holding 45 percent of the shares. However, the corporations whose shares were quoted on the Boston Stock Exchange were ‘widely held’ at rates comparable to modern American public companies. The production methods utilized in different industries also influenced firms’ ownership structures. In many early factories, steam power was combined with unskilled labor, and managers likely performed a complex supervisory role that was critical to the success of the firm. Consistent with the notion that monitoring management was especially important among such firms, corporations in industries that made greater use of steam power and unskilled labor had more concentrated ownership, higher levels of managerial ownership, and smaller boards of directors.
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How CEO Hubris Affects Corporate Social (Ir)responsibility
Yi Tang et al.
Strategic Management Journal, forthcoming
Abstract:
Grounded in the upper echelons perspective and stakeholder theory, this study establishes a link between CEO hubris and corporate social responsibility (CSR). We first develop the theoretical argument that CEO hubris is negatively related to a firm's socially responsible activities but positively related to its socially irresponsible activities. We then explore the boundary conditions of hubris effects and how these relationships are moderated by resource dependence mechanisms. With a longitudinal dataset of S&P 1500 index firms for the period 2001–2010, we find that the relationship between CEO hubris and CSR is weakened when the firm depends more on stakeholders for resources, such as when its internal resource endowments are diminished as indicated by firm size and slack, and when the external market becomes more uncertain and competitive. The implications of our findings for upper echelons theory and the CSR research are discussed.
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Prior Client Performance and the Choice of Investment Bank Advisors in Corporate Acquisitions
Valeriy Sibilkov & John McConnell
Review of Financial Studies, forthcoming
Abstract:
Contrary to earlier studies, we find that prior client performance is a significant determinant of the likelihood that an investment bank will be chosen as the advisor by future acquirers and of the changes through time in banks’ shares of the advisory business. Further, the changes in the market values of acquirers at the announcement of acquisition attempts are positively correlated with contemporaneous changes in the market values of their advisors. Two implications arise: (1) acquirers consider advisors’ prior client performance when choosing their advisors and (2) market forces work to align advisors’ and clients’ interests in the acquisition market.
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Short sales and class-action lawsuits
Benjamin Blau & Philip Tew
Journal of Financial Markets, forthcoming
Abstract:
Gande and Lewis (2009) show class-action lawsuit filings are anticipated by investors. In this paper, we examine short-selling activity surrounding lawsuit filings and find that short activity surges in the days before the filing. However, short-selling activity remains significantly high until a few days after the filing. We also find some evidence that both pre- and post-filing short activity can be used to predict the outcome of the filing. In particular, we find that, after controlling for a variety of firm-specific factors, short activity during the filing period increases the likelihood that the lawsuit eventually generates money for the plaintiff.
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Bonuses and managerial misbehavior
Caspar Siegert
European Economic Review, May 2014, Pages 93–105
Abstract:
Profit-based bonus payments have been criticised for encouraging managers to take excessively risky actions or to engage in other activities that are not in the firm׳s best interest. We show, however, that large bonuses may discourage managers from such misbehaviour, because they have more to lose in the event that misbehaviour is detected. Thus, large bonuses may be an optimal way for firms to control misbehaviour. Our finding sheds new light on recent proposals to regulate bonuses.
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Executive compensation: A general equilibrium perspective
Jean-Pierre Danthine & John Donaldson
Review of Economic Dynamics, forthcoming
Abstract:
We study the dynamic general equilibrium of an economy where risk averse shareholders delegate the management of the firm to risk averse managers. The optimal contract has two main components: an incentive component corresponding to a non-tradable equity position and a variable “salary” component indexed to the aggregate wage bill and to aggregate dividends. Tying a manager's compensation to the performance of her own firm ensures that her interests are aligned with the goals of firm owners and that maximizing the discounted sum of future dividends will be her objective. Linking managers' compensation to overall economic performance is also required to make sure that managers use the appropriate stochastic discount factor to value those future dividends. General equilibrium considerations thus provide a potential resolution of the “pay for luck” puzzle. We also demonstrate that one sided “relative performance evaluation” follows equally naturally when managers and shareholders are differentially risk averse.
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The Effect of Securities Litigation on External Financing
Don Autore et al.
Journal of Corporate Finance, forthcoming
Abstract:
Using a comprehensive sample of securities litigation, we examine the effect of financial fraud on the subsequent use of external financing. We find that firms with a recent history of securities litigation, particularly more severe litigation, are less likely to seek external debt and equity financing. This negative relationship between prior litigation and external financing is stronger for firms with high information asymmetry. Furthermore, firms significantly reduce their investments in capital expenditures and research and development during the three years following a litigation filing. Thus, the reduction in the availability of external financing due to allegations of financial fraud can have a tangible impact upon the investment opportunities of the firm.
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Performance of acquirers of divested assets: Evidence from the U.S. software industry
Tomi Laamanen, Matthias Brauer & Olli Junna
Strategic Management Journal, June 2014, Pages 914–925
Abstract:
We provide a comparative analysis of acquirer returns in acquisitions of public firms, private firms, and divested assets. On the basis of a sample of 5,079 acquisitions by U.S. software industry companies during 1988–2008, we find that acquisitions of divested assets outperform acquisitions of privately held firms, which in turn outperform acquisitions of publicly held firms. While the higher returns for acquisitions of divested assets relative to stand-alone acquisition targets can be explained by market efficiency arguments, seller distress and improved asset fit further enhance the positive returns of acquirers of divested assets consistent with the relative bargaining power explanation. Finally, we find that the effects of these buyer bargaining advantages are mutually strengthening and that they also hold for longer-term acquirer performance.
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The implications of ineffective internal control and SOX 404 reporting for financial analysts
Sarah Clinton, Arianna Spina Pinello & Hollis Skaife
Journal of Accounting and Public Policy, forthcoming
Abstract:
The mandatory reporting of firms’ internal control effectiveness continues to be debated by equity market participants, U.S. regulatory agencies and oversight committees. We investigate the implications of material weaknesses in internal control and SOX 404 required reporting of such for financial analysts because analysts are important intermediaries in the U.S. capital market and it is not known whether analysts’ forecasts or coverage decisions are affected by firms’ internal control problems or reporting, respectively. Results of our empirical tests indicate that analysts provide less accurate forecasts and there is greater forecast dispersion for firms with ineffective internal control. We also find that firms that disclose internal control problems have less analyst coverage and that analyst following declines after the material weakness in internal control is disclosed. The results are robust to controlling for potential self-selection bias and management earnings guidance. Our study documents the consequences of ineffective internal control for an important class of financial statement users and suggests the required reporting on the effectiveness of internal control is beneficial to understanding the properties of analysts’ forecasts.
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Advance Disclosure of Insider Trading
Stephen Lenkey
Review of Financial Studies, forthcoming
Abstract:
Using a strategic rational expectations equilibrium framework, we show that forcing a well-informed insider to disclose her trades in advance tends to increase welfare for both the insider and less-informed outsiders. Advance disclosure generates price risk for the insider, and to mitigate this risk, the insider trades less aggressively on her private information. Consequently, outsiders face lower adverse selection costs, which improves risk sharing and increases welfare. The drop in trading aggressiveness also causes market efficiency to decline. Furthermore, pretrade disclosure encourages excessive risk taking but may either encourage or discourage managerial effort.