Costs of Capital
Corporate Immunity to the COVID-19 Pandemic
Wenzhi Ding et al.
NBER Working Paper, April 2020
Abstract:
Using data on over 6,000 firms across 56 economies during the first quarter of 2020, we evaluate the connection between corporate characteristics and stock price reactions to COVID-19 cases. We find that the pandemic-induced drop in stock prices was milder among firms with (a) stronger pre-2020 finances (more cash, less debt, and larger profits), (b) less exposure to COVID-19 through global supply chains and customer locations, (c) more CSR activities, and (d) less entrenched executives. Furthermore, the stock prices of firms with greater hedge fund ownership performed worse, and those of firms with larger non-financial corporate ownership performed better. We believe ours is the first paper to assess international, cross-firm stock price reactions to COVID-19 as functions of these pre-shock corporate characteristics.
The Return of Poison Pills: A First Look at 'Crisis Pills'
Ofer Eldar & Michael Wittry
Duke University Working Paper, April 2020
Abstract:
The poison pill, arguably the most effective anti-takeover device, is making a come-back in the wake of the coronavirus (COVID-19) crisis. The sharp decline in stock prices as the virus has spread around the globe has made corporations particularly vulnerable to takeovers and interventions by hedge fund activists. In response to this development, as of April 23, 2020, at least 49 public corporations have adopted poison pills. Consistent with previous literature, we find that on average pill adoptions follow a decline in market valuations and that there is no meaningful stock price effect after adoption. However, we uncover different patterns for firms that belong to industries that have high exposure to the crisis and firms that belong to industries with low or moderate exposures. The high exposure firms adopt the pill following a much steeper decline in market value than the low-to-moderate exposure firms. Following adoption, the high exposure firms experience a dramatic positive stock price effect of 6.2% on the day of adoption and nearly 10% after 10 days, whereas the low-to-moderate exposure firms experience a large negative stock price effect in most event windows.
Casting Conference Calls
Lauren Cohen, Dong Lou & Christopher Malloy
Management Science, forthcoming
Abstract:
We explore a subtle but important mechanism through which firms can control information flow to the markets. We find that firms that “cast” their conference calls by disproportionately calling on bullish analysts tend to underperform in the future. Firms that call on more favorable analysts experience more negative future earnings surprises and more future earnings restatements. A long–short portfolio that exploits this differential firm behavior earns abnormal returns of up to 149 basis points per month or almost 18% per year. We find similar evidence in an international sample of earnings call transcripts from the United Kingdom, Canada, France, and Japan. Firms with higher discretionary accruals, firms that barely meet/exceed earnings expectations, and firms (and their executives) that are about to issue equity, sell shares, and exercise options are all significantly more likely to cast their earnings calls.
How Executive Compensation Changes In Response to Personal Income Tax Shocks (Who Pays the CEO’s Income Taxes?)
Benjamin Bennett, Jeffrey Coles & Zexi Wang
University of Utah Working Paper, April 2020
Abstract:
We examine the effects on executive pay of exogenous shocks to personal income tax rates. After a tax rate increase, pay of CEOs and non-CEO named executive officers (NEOs) increases within two years by more than the increased tax liability. The higher tax burden appears to motivate CEOs to sell firm stock for liquidity. Boards respond by increasing cash pay to replace liquidity and equity-based pay to more than replenish CEO delta and vega incentives. The effect of personal income tax on compensation is asymmetric: CEOs and NEOs do not experience pay cuts following tax cuts.
Short-Selling Pressure and Aggressive Corporate Tax Avoidance
Han Kim, Yao Lu & Zhang Peng
University of Michigan Working Paper, March 2020
Abstract:
We study how short-selling pressure affects tax aggressiveness using the pilot program in Regulation SHO, which increased short-selling pressure on pilot firms. Our difference-in-differences estimates show that short-selling pressure significantly reduces tax aggressiveness. We offer a simple model to explain the reduction and provide evidence that when short-selling pressure increases, the likelihood of detecting aggressive tax shelters increases, discouraging tax aggressiveness. Furthermore, the effect is stronger (weaker) for firms that were subject to fewer (more) audits by the IRS. These findings suggest that short-sellers provide valuable monitoring service that helps reduce aggressive tax avoidance schemes.
Trust and R&D investments: Evidence from OECD countries
Gideon Ndubuisi
Journal of Institutional Economics, forthcoming
Abstract:
This paper examines two potential mechanisms – access to credit and reduction in relational risks – through which social trust can affect R&D investments. Social trust can increase R&D investments by expanding firms' access to external finance with which they can use to fund promising R&D projects. It can also increase R&D investments by reducing relational risks that expose firms to ex-ante and ex-post holdups or expropriation risks. Using industry-level data on R&D investment intensities in 20 OECD countries, I test these mechanisms by evaluating whether more external finance dependent and relational risk vulnerable industries exhibit disproportional higher R&D investment intensities in trust intensive countries. The results indicate that external finance dependent industries and relational risks vulnerable industries experience relatively higher R&D investment intensities in trust-intensive countries. Therefore, the results underline access to external finance and reduction in relational risks as causal pathways linking social trust and R&D investments.
Are Corporate Payouts Abnormally High in the 2000s?
Kathleen Kahle & René Stulz
NBER Working Paper, April 2020
Abstract:
Adjusting for inflation, the annual amount paid out through dividends and share repurchases by public non-financial firms is three times larger in the 2000s than from 1971 to 1999. We find that an increase in aggregate corporate income explains 38% of the increase in the average of aggregate annual payouts from 1971-1999 to the 2000s, while an increase in the aggregate payout rate explains 62%. At the firm level, changes in firm characteristics explain 71% of the increase in average payout rate for the population and 49% of the increase in the average payout rate of firms with payouts. Though there is a negative relation between payouts and investment, most of the increase in payouts is unrelated to the decrease in investment. Models estimated over 1971-1999 underpredict the payout rate of firms with payouts in the 2000s. These models perform better when we forecast non-debt-financed payouts for a sample of larger firms, but not for the sample as a whole. Payouts are more responsive to firm characteristics in the 2000s than before, which is consistent with management having stronger payout incentives.
CEO Employee Approval and Firm Value: Evidence from Employees' Choice Awards
Spencer Barnes
Florida State University Working Paper, March 2020
Abstract:
This study examines the impact of employees' opinions of chief executive officers (CEO) on firm value. Leveraging close employee vote shares in event study and regression discontinuity specifications from Glassdoor's "Top CEOs Employees' Choice" award list suggest a causal link of the relationship. Narrowly winning an employees' choice CEO award results in a negative one percent cumulative abnormal stock return around the award release but a four percent increase in firm value in following years. The findings imply that CEO and employee relationships are an important intangible good for corporate governance.
Network Effects in Corporate Governance
Sarath Sanga
Journal of Law and Economics, February 2020, Pages 1-41
Abstract:
Most public companies incorporate in Delaware. Is this because they prefer its legal system, or are they simply following a trend? Using the incorporation histories of over 22,000 public companies from 1930 to 2010, I show that firms are more influenced by changes in each other’s decisions than by changes in the law. The analysis exploits an unexpected legal shock that increased Delaware’s long-run share of firms from 30 to 74 percent. I attribute most of this change to a cascading effect in which the decisions of past firms successively influence future cohorts. These decisions are also highly path dependent: in a counterfactual setting without switching costs, firms would be five times more likely to reincorporate in response to a given legal change. I conclude that network effects dominate secular trends in corporate governance.
Do Corporate Social Responsibility Engagements Lead to Real Environmental, Social, and Governance Impact?
Jun Li & Di (Andrew) Wu
Management Science, forthcoming
Abstract:
We construct an event-based outcome measure of firm-level environmental, social, and governance (ESG) impact for public and private firms globally from 2007 to 2015 using data from RepRisk. Then we measure the societal impact of corporate social responsibility (CSR) engagements using participation in the United Nations Global Compact (UNGC) as a proxy. We demonstrate a robust and striking difference between public and private firms: whereas private firms significantly reduce their negative ESG incident levels after UNGC engagements, public firms fail to do so and are more likely to engage in decoupled CSR actions — actions with no subsequent real impact. We then conduct a series of in-depth analyses to examine possible economic mechanisms. Our results are most consistent with shareholder–stakeholder conflicts of interest being the main moderator of decoupling. The intensity of this conflict is further moderated by three factors: ownership type, proximity to final consumers on the value chain, and specific ESG incident types. Other possible mechanisms, such as selective entry into UNGC and heterogeneities in media exposure, country representation, and entry timing, do not survive our analysis. Our results suggest that existing CSR engagements and one-size-fits-all CSR policy mandates might not necessarily lead to better societal outcomes, and a multi-tiered policy targeting different ownership and industry types might be more efficient at maximizing ex post ESG benefits.
Are US firms becoming more short‐term oriented? Evidence of shifting firm time horizons from implied discount rates, 1980–2013
Rachelle Sampson & Yuan Shi
Strategic Management Journal, forthcoming
Abstract:
We provide evidence that investors in US public markets are increasingly discounting firms’ expected future cash flows during 1980–2013. This trend is shown not only on average across firms, but also within firms over time after alternative explanations are accounted for. To corroborate a link with firm time horizons, we estimate the relationship between an implied discount rate (“IDR”) and factors relevant to firm long‐term strategy. We find that IDR is correlated in expected ways with firm investments, management incentives, financial health, ownership and external pressures ‐ measures that have been argued to correlate with firm time horizons. This paper represents one of the first attempts to document market‐wide evidence of shortening firm time horizons. These changing horizons bear important implications for firm strategy.
When in Rome: Local Social Norms and Tournament Incentives
Natasha Burns, Kristina Minnick & Mia Rivolta
University of Texas Working Paper, March 2020
Abstract:
We investigate whether social capital influences the use and effectiveness of tournament structure of compensation. We find that pay differentials between the CEO and other executives, or tournament, are lower in U.S. counties with higher social capital. In addition, lower pay differentials are associated with better firm performance in regions with higher social capital. We use a variety of experiments which are shown to change social capital, such as legalization of medical and recreational use of marijuana or moving corporate headquarters. Our results remain robust. These findings suggest that social capital impact firms’ compensation setting decisions and firm performance.
Flying under the Radar: Confidential Filings and IPO Lawsuits
Burcu Esmer, Bugra Ozel & Suhas Sridharan
University of Pennsylvania Working Paper, March 2020
Abstract:
Despite strong incentives to increase visibility and disclosure before initial public offerings (IPOs), many firms take advantage of the confidential filing provisions of the JOBS Act of 2012 to obscure their financial and non-financial information prior to IPOs. We posit that one potential reason for holding back information prior to an IPO is to reduce litigation. We focus not on shareholder litigation but on litigation from other sources (e.g. competitors, ex- and current employees, and patent trolls). We show that firms that publicly file their registration statement with the SEC experience a 25% increase in lawsuits during pre-IPO period, whereas a matched sample of firms that file confidentially under the provisions of the JOBS Act do not experience such an increase. The difference between the two groups is concentrated among lawsuits in which the plaintiff is a business, rather than an individual, and among lawsuits that are more likely to be meritless. There is no disproportionate increase in lawsuits for the confidential filers following the IPO, which suggests that withholding information during the IPO period mitigates, rather than delays, opportunistic litigation.
The Distraction Effect of Non-Audit Services on Audit Quality
Erik Beardsley, Andy Imdieke & Thomas Omer
University of Notre Dame Working Paper, March 2020
Abstract:
Regulators have expressed concerns that a broad emphasis on providing non-audit services (NAS) to audit clients could distract from the audit function, even for individual clients not purchasing substantial NAS. Motivated by this concern, we examine whether a greater emphasis on providing NAS to audit clients generally (i.e., not just to a specific client) can distract from the audit function, thus reducing audit quality to the client portfolio. We find evidence of a distraction effect of NAS, where a greater emphasis on NAS at the audit office-level results in lower audit quality, even after controlling for other factors including client-specific NAS. Further, we find the association concentrated among clients that purchase lower proportions of NAS, which provides evidence that the observed association relates to distraction effects rather than independence issues examined in prior research. This study should be of interest to audit firms, audit committees, and regulators because it provides new evidence regarding the issues related to a business model that includes both audit and non-audit services.