The Buck Stops Here

Kevin Lewis

February 10, 2020

The Politics of CEOs
Alma Cohen et al.
Journal of Legal Analysis, 2019, Pages 1–45


This article studies the political preferences of chief executive officers (CEOs) of public companies. We use Federal Election Commission records to compile a comprehensive database of the political contributions made by more than 3800 individuals who served as CEOs of Standard & Poor’s 1500 companies between 2000 and 2017. We find a substantial preference for Republican candidates. We identify how this pattern is related to the company’s industry, region, and CEO gender. In addition, we show that companies led by Republican CEOs tend to be less transparent to investors with respect to their political spending. Finally, we discuss the policy implications of our analysis.

Time Encoding in Languages and Investment Efficiency
Jaehyeon Kim, Yongtae Kim & Jian Zhou
Management Science, forthcoming


Linguistics research shows that languages differ as to how they differentiate future from present events. Economics research finds that when the grammatical structure of a language disassociates the future from the present, speakers of the language also disassociate the future from the present in their behaviors. This study examines how linguistically induced time perception relates to cross-country variation in investment efficiency. We find that underinvestment is less prevalent in countries where there is a weaker time disassociation in the language. The results from both a within-country analysis based on firms headquartered in different regions of Switzerland and an analysis based on the birthplace information of US firms’ CEOs confirm the relation between languages and investment efficiency. Collectively, the results suggest that time encoding in languages influences speakers’ cognition and their investment decisions.

Protecting Wall Street or Main Street: The Influence of Ownership Characteristics on SEC Monitoring and Enforcement
Michael Iselin et al.
University of Minnesota Working Paper, December 2019


In this study we examine whether ownership characteristics of a firm influence the likelihood of SEC monitoring and enforcement. Although the SEC seeks to protect all investors, we posit that certain investors are more susceptible to information asymmetry problems due to differences in investment resources or expertise. We specifically ask whether the percentage of retail ownership of a firm affects the likelihood that the firm is subject to monitoring and enforcement by the two largest divisions of the SEC. We find a negative association between retail ownership percentage and SEC monitoring. In contrast, we find a positive association between retail ownership percentage and SEC enforcement. These results suggest that the SEC generally focuses its monitoring efforts on institutionally-owned firms. However, following the most egregious cases of misreporting that rise to the level of a restatement, the SEC shifts its focus to protect retail investors via its enforcement activities.

Corporate Social Performance and Managerial Labor Market
Xin Dai et al.
Rutgers Working Paper, December 2019


This paper examines the impact of a firm’s social performance on the CEO’s employment prospects. We track departing CEOs’ subsequent employment records and find that the social performance of their previous employers improves their labor market outcomes. These CEOs are more likely to find a new executive position, and the new employer is more likely to be a publicly traded company. Using a Cox proportional hazard model, we find that strong social performance of the previous employer helps CEOs find their next executive positions sooner. For the sub-sample of CEOs finding new executive positions at public firms, we find that a CEO whose previous employer has stronger social performance is more likely to move up to a larger firm and receive higher compensation. Overall, our results suggest that corporate social performance enhances CEOs’ labor market potentials.

Short-Term Investors, Long-Term Investments, and Firm Value: Evidence from Russell 2000 Index Inclusions
Martijn Cremers, Ankur Pareek & Zacharias Sautner
Management Science, forthcoming


We document that an increase in short-horizon investors is associated with cuts to long-term investment and increased short-term earnings. This leads to temporary boosts in equity valuations that reverse over time. To estimate these effects, we use difference-in-differences regressions around firms’ additions to the Russell 2000, comparing firms with large and small increases in short-term ownership. We proxy for the presence of short-term investors using ownership by transient institutions. Our results suggest that short-term pressures by investors can lead to myopic firm behavior.

Are Generalists Beneficial to Corporate Shareholders? Evidence from Exogenous Executive Turnovers
André Betzer et al.
Journal of Financial and Quantitative Analysis, March 2020, Pages 581-619


This study finds a positive, economically meaningful impact of generalist chief executive officers (CEOs) on shareholder value using 164 sudden deaths and 345 non-sudden exogenous turnovers. The higher a departing CEO’s general ability index (GAI), independently and relative to her successor, the lower is the abnormal stock return to turnover announcements. Returns reflect post-turnover changes in operating performance. Further, CEOs’ and successors’ GAIs are significantly positively related, but only for non-sudden turnovers. Consistently, for sudden deaths, we find positive stock returns to appointments of generalist successors. The results provide a market-based explanation for the generalist pay premium.

Rhetoric, Reality, and Reputation: Do CSR and Political Lobbying Protect Shareholder Wealth against Environmental Lawsuits?
Chelsea Liu, Chee Seng Cheong & Ralf Zurbruegg
Journal of Financial and Quantitative Analysis, March 2020, Pages 679-706


We investigate whether firms’ corporate social responsibility (CSR) reputations and environmental lobbying efforts protect shareholder wealth in the event of environmental lawsuits. Using a sample of lawsuits filed in United States Federal Courts, we find that firms with superior CSR reputations suffer worse market reactions to environmental allegations. In contrast, lobbying cushions filing-date valuation losses, providing insurance-like protection against lawsuits. Our results are robust to subsample analyses, a falsification test, propensity score matching, and alternative empirical proxies and model specifications.

Public Oversight and Reporting Credibility: Evidence from the PCAOB Audit Inspection Regime
Brandon Gipper, Christian Leuz & Mark Maffett
Review of Financial Studies, forthcoming


This paper studies the impact of public audit oversight on financial reporting credibility. We analyze changes in market responses to earnings news after public audit oversight is introduced, exploiting that the regime onset depends on fiscal year-ends, auditors, and the rollout of auditor inspections. We find that investors respond more strongly to earnings news following public audit oversight. Corroborating these findings, we find an increase in volume responses to 10-K filings after the new regime. Our results show that public audit oversight can enhance reporting credibility and that this credibility is priced in capital markets.

How Big-4 Firms Improve Audit Quality
Limei Che, Ole-Kristian Hope & John Christian Langli
Management Science, forthcoming


This paper studies whether and how Big-4 firms provide higher-quality audits than non-Big-4 firms. Specifically, we first examine a Big-4 effect and then explore three sources of the Big-4 effect. To test the Big-4 effect, we use a unique data set of individual audit partners for a large sample of private companies and a novel research design exploiting the fact that auditees may follow the auditor who switches affiliation from a non-Big-4 firm to a Big-4 firm. Thus, we compare audit quality and audit fees of the same partner–auditee pairs before and after the switch. The results show that the Big-4 effect exists in the private-firm segment. More important, we find evidence for three sources of the Big-4 effect. First, Big-4 firms are able to recruit non-Big-4 partners who deliver higher audit quality than other non-Big-4 partners in the preswitch period. Second, enhanced learning has taken place after the switch. Third, the increased audit quality can also be attributed to stronger incentives/monitoring. These are new findings to the literature.

Chief Financial Officer Co-option and Chief Executive Officer Compensation
Shane Dikolli et al.
Management Science, forthcoming


We study whether relative power in the chief executive officer (CEO)–chief financial officer (CFO) relationship influences CEO compensation. To operationalize relative power of a CEO over a CFO, we define CFO co-option as the appointment of a CFO after a CEO assumes office. We find that CFO co-option is associated with a CEO pay premium of about 10%, which is concentrated more in the early years of the co-opted CFO’s tenure and in components of compensation that vary with the achievement of analyst-based earnings targets. Our evidence also indicates that a primary channel through which CEO power over a co-opted CFO yields the achievement of earnings targets is the use of earnings management to inflate earnings. Co-opted CFOs rely primarily on using discretionary accruals to manage earnings prior to the Sarbanes–Oxley regulatory intervention and switch to real-activities manipulation afterward. The evidence thus suggests that the form of earnings management depends on costs imposed on the CFO to inflate earnings.

Board Expertise and Executive Incentives
Xiaojing Meng & Jie Joyce Tian
Management Science, forthcoming


We investigate how board expertise affects chief executive officer (CEO) incentives and firm value. The CEO engages in a sequence of tasks: first acquiring information to evaluate a potential project, then reporting his or her assessment of the project to the board, and finally implementing the project if it is adopted. We demonstrate that the CEO receives higher compensation when the board agrees with the CEO on the assessment of the project. Board expertise leads to (weakly) better investment decisions and helps motivate the CEO's evaluation effort; however, it may induce underreporting and reduce the CEO's incentives to properly implement the project. Consequently, if motivating the CEO to evaluate projects is the major concern (e.g., innovative industries), board expertise exhibits an overall positive effect on firm value; however, if motivating the CEO to implement projects is the major concern (e.g., mature industries), board expertise can harm firm value.

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