Knowledge that Transforms

We investigate stock price reactions to Internet-related name changes in a market downturn. In contrast to the Internet boom period, during which there was a surge of dot.com additions, in the bust period, there is a dramatic reduction in the pace of dot.com additions accompanied by a rapid increase in dot.com name deletions. Following the Internet “crash” of mid-2000, investors react positively to name changes for firms that remove dot.com from their name. This dot.com deletion effect produces cumulative abnormal returns on the order of 64% for the 60 days surrounding the announcement day. Our results add support to a growing body of literature that documents that investors are potentially influenced by cosmetic effects and that managers rationally time corporate actions to take advantage of these biases.

The reciprocal interlocking of chief executive officers is a non-trivial phenomenon: among large companies in 1991, about one company in seven was in a relationship whereby the CEO of one company sat on a second company's board and the second company's CEO sat on the first company's board. We develop hypotheses to distinguish whether this practice furthers the interests of shareholders or the private interests of the CEOs. Using a sample of large companies, we employ a probit model to test these hypotheses. Our empirical findings are that these reciprocal CEO interlocks primarily benefit the CEOs rather than their shareholders.

Using several benchmarks and operating performance measures, the results from this paper suggest that takeovers completed in the UK over the period 1985 to 1993 result in modest improvements in operating performance. Using a matching procedure similar to that employed by Loughran and Ritter [J. Finance 52 (1997) 1823], in which benchmark firms are selected on the basis of several pre-takeover characteristics, the median increase in post-takeover performance for acquiring firms ranges from 0.13% per annum to a statistically significant 1.78% per annum, depending on the definition of operating performance used and choice of deflator. Using the same matching scheme in a Healy et al. [J. Financ. Econ. 31 (1992) 135] methodology, in which post-takeover performance is regressed on a combined target and acquirer pre-takeover performance, reveals larger improvements in operating performance, ranging from 0.80% to a statistically significant 3.1%, again depending on the definition of operating performance employed and deflator chosen. While there is some evidence that factors such as industrial relatedness and the removal of the target CEO have an impact on post-takeover performance, method of payment is found to have an insignificant impact.

I examine the relative effects of replacement investments (RX) and adaptation investments (AX) on equity value. My analysis draws from the real-options theory that stresses the link between firm value and the option a firm holds to continue current practice or to adapt resources to new opportunities. The key prediction is that replacement and adaptation investments reflect the exercise of different investment options that have different implications for firm value; the effect of each investment type on firm value depends on the relative attractiveness of the underlying investment option. The results show that, in the presence of earnings, the effect of replacement investments on equity value is negative and increasing in earnings performance; by contrast, the effect of adaptation investments on equity value is positive and decreasing in earnings performance. Further analyses show that asset sales mediate the importance of adaptation investments in determining equity value.

This paper generalizes the Myers and Majluf (1984) model by introducing an agency cost structure based on private benefits of control. This new model predicts that many corporate finance variables each have opposing effects on under- and overinvestment. Private benefits exacerbate overinvestment but, interestingly, a small amount of private benefits can enhance firm value by alleviating underinvestment. Likewise, an increase in insider ownership alleviates overinvestment but aggravates underinvestment. When private benefits are small, the adverse effect of insider ownership on underinvestment tends to dominate. When there are considerable private benefits, the incentive-alignment effect of insider ownership is pronounced. Additionally, this model reconciles existing equity financing theories on announcement effects. It helps resolve the puzzle that small-growth firms do not seem to have an asymmetric information disadvantage when they issue new equity.

When calling its convertible bonds, a company must typically give bondholders a notice period of about 30 days to decide whether to convert the bonds. This notice period affects the optimal call policy for convertible bonds. After accounting for the notice period, convertible bonds in our sample would have been optimally called when the stock was at about an 11% premium (median) relative to the conversion price. We show that after properly accounting for the call notice period and other factors, the median excess call premium is less than 4%—substantially less than the 26–44% call premium previous researchers have documented.

The nonlinear relationship between corporate value and managerial ownership is well documented. This has been attributed to the onset of managerial entrenchment, which results in a decrease of corporate value for increasing levels of managerial holdings. We propose a new structure for this relationship that accounts for the effect of conflicting managerial incentives, and external and internal disciplinary monitoring mechanisms. Using this specification as the basis for our analysis, we provide evidence that the managerial ownership–corporate value relationship is co-deterministic. This finding is at odds with recent work which reports that corporate value determines managerial ownership but not vice-versa.

The question of why individual investors want dividends is investigated by submitting a questionnaire to a Dutch investor panel. The respondents indicate that they want dividends partly because the cost of cashing in dividends is lower than the cost of selling shares. Their answers provide strong confirmation for the signaling theories of Bhattacharya (1979) [Bhattacharya, S., 1979. Imperfect information, dividend policy and the “bird in the hand” fallacy. Bell Journal of Economics 10, 259–270] and Miller and Rock (1985) [Miller, M., Modigliani, F., 1961. Dividend policy, growth and the valuation of shares. Journal of Business 34, 411–433]. They are inconsistent with the uncertainty resolution theory of Gordon (1961, 1962) [Gordon, M., 1961. The Investment, Financing, and Valuation of the Corporation, Richard D. Irwin, Homewood, IL; Gordon, M., 1962. The savings, investment and valuation of a corporation. Review of Economics and Statistics 44, 37–51.] and the agency theories of Jensen (1986) [Jensen, M.C., 1986. Agency costs of free cash flow, corporate finance and takeovers. American Economic Review 76, 323–329] and Easterbrook (1984) [Easterbrook, F.H., 1984. Two agency-cost explanations of dividends. American Economic Review 74, 650–659]. The behavioral finance theory of Shefrin and Statman (1984) [Shefrin, H.M., Statman, M., 1984. Explaining investor preference for cash dividends. Journal of Financial Economics 13, 253–282] is not confirmed for cash dividends but is confirmed for stock dividends. Finally, our results indicate that individual investors do not tend to consume a large part of their dividends. This raises some doubt as to whether a reduction or elimination of dividend taxes will stimulate the economy.

This paper analyzes how the strategies of domestic firms borrowing abroad complicate the interaction between central banks and foreign exchange short sellers. If we define financial liberalization as the degree of freedom given to domestic firms to borrow abroad, we find that, in the early stages of financial liberalization, foreign borrowing does not affect the stability of the currency peg, but, in the advanced stages of financial liberalization, foreign borrowing destabilizes currency pegs. When this happens, we show that policies to curb currency short sellers have no effect. The paper thus formalizes the critical juncture where financial liberalization and currency pegs become incompatible policy goals.