Knowledge that Transforms

ABSTRACT George Floyd's murder caused many firms to reveal how exposed they are to racial diversity issues. We examine investor and firm behaviors after this socially significant event to provide evidence on the valuation effects of the exposure and ensuing corporate responses. We develop a text‐based measure of a firm's exposure to racial diversity issues from conference call transcripts and find that, after the murder of George Floyd, firms with diversity exposure experience a stock price decrease of approximately 0.7% around the date of the conference call. We provide evidence that this effect is attributable to race‐related exposure and not gender‐related exposure. Initiatives taken by firms mitigate the negative market reaction. We document that firms with racial diversity exposure respond by appointing Black directors. The stock market views appointments of Black directors more favorably after George Floyd's murder, except when they are perceived as symbolic. We also find that firms with greater exposure to racial diversity are more likely to establish diversity, equity, and inclusion (DEI) departments, appoint DEI leaders, specify diversity goals, increase supply chain diversity, and donate to racial justice causes. Our paper provides evidence that exposure to racial diversity issues adversely affects firm value, and companies address the exposure by taking actions.

ABSTRACT We study the role of a relatively new type of external firm monitor, an on‐site government‐appointed Corporate Monitor, and assess whether such appointments reduce firms' propensity to violate laws. Using a sample of deferred and nonprosecution agreements, we first document the determinants of Monitor appointment. We find firms that voluntarily disclose wrongdoing and have more independent directors are less likely to have Corporate Monitors, whereas those with more severe infractions, mandated board changes, and increased cooperation requirements are more likely to have Monitors. We find such appointments are associated with an 18%–25% reduction in violations while the Monitor is on site, however, the effect does not persist after the Monitorship ends. Using a semisupervised machine learning method to measure changes in firms' ethics and compliance norms, we find that the reduction in violations is associated with changes in ethics and compliance that also do not persist. Finally, we document that firms under Monitorship experience a persistent reduction in innovation, highlighting a previously unexplored cost of these interventions. Overall, our results suggest that, although Corporate Monitors on site are associated with fewer violations, firms revert to previous levels of violations following Monitors' departure.

ABSTRACT We show that information exposure through international business networks enables firms to take proactive measures that benefit employees and potentially the local community. Specifically, in the early days of COVID‐19, firms that have business networks with China and Italy are more likely to be aware of the severity of the disease, and proactively implement work‐from‐home (“WFH”) policies that can protect their employees. Using Safegraph foot traffic data, we find a higher stay‐at‐home ratio before local governments impose lockdowns in zip codes where firms have a larger information exposure. These areas are also associated with a lower spread of COVID‐19. Our main findings are more pronounced when local governments face constraints in quickly responding to COVID‐19 and when firms have a higher WFH capability or have more investors with socially responsible preferences. Collectively, we present evidence on the role of private corporations in mitigating the negative effects of a public health crisis before government intervention.

ABSTRACT Prior research on auditor industry specialization documents fee premiums for local audit offices that are industry specialists. This research assumes that the effects of specialization are uniform across markets. We examine industry specialization based on the economic theory of industry agglomeration (geographic areas with high industry concentration). Agglomeration economies can facilitate access to knowledge for auditors serving a specific industry in those locations. We find that industry specialists in agglomerations earn a fee premium in excess of specialists in other markets. We find that nonspecialist offices in agglomerations also earn fee premiums in that industry when compared to nonspecialists in other markets even when controlling for these groups’ absolute share of the national market. We also address whether or not this expertise can be shared among offices in an agglomeration specialist's firm. We find that audit offices that have easy connections to a within‐firm office in an agglomerated market can earn a fee premium relative to more distant offices, suggesting a benefit from knowledge transfer. This fee premium accrues to offices that would not be considered a specialist using traditional market share measures in a given industry. These findings indicate that the benefit of industry specialization depends on more than local market share.

ABSTRACT We conjecture that board renewal mechanisms—those substantive enough to renew the thinking of the board—are required before investors can address the mismatch between their preferences regarding environmental sustainability and what insiders at firms are actually doing. We identify the adoption of majority voting for directors and the introduction of a female director as two corporate governance mechanisms potentially strong enough to renew a board's thinking on sustainability. Using a sample of 3,293 firms from 41 countries, along with quasi‐exogenous shocks to board renewal mechanisms in Canada and France, we find that both board renewal mechanisms are associated with significantly higher future environmental performance. Further tests provide suggestive evidence that board renewal is more strongly associated with environmental performance in settings with better institutions and more motivated institutional investors. These results suggest the importance of board renewal for alignment of firm policies with investor preferences around the world.

ABSTRACT We study the real effects of certification to demonstrate the value of mandatory certification over and above mandatory disclosure in enhancing investment efficiency. In our model, a firm's manager selects a project to maximize the firm's short‐term stock price, which is a function of her certification and disclosure decisions about the outcome of the project. Although the manager might be either forthcoming or strategic with regard to the disclosure of her private information, she can strategically choose whether to incur a cost or not to certify her disclosure, unless mandated. The manager always selects the first‐best project when both certification and disclosure are mandatory. However, when certification is voluntary, project selection is inefficient. In addition, mandating disclosure without mandating certification can lead to lower investment efficiency than mandating neither. In justifying why mandatory certification is beneficial for public firms, our results offer a note of caution regarding the contemplated regulatory moves for increased disclosures by public firms without corresponding certification requirements, for example, the recent SEC proposal requiring extensive climate‐related disclosure.

ABSTRACT Running a contest can help managers elicit creative ideas from employees by providing employees with incentives to develop and share ideas that will help the firm. Little is known, however, about how contest design affects the outcomes of subjectively evaluated creativity‐based contests. We conduct an experiment to investigate the impact of two contest design choices, the job role of the contest's evaluator, and the number of prizes that participants compete for, on employee participation behavior. We also examine how these contest design choices impact the creativity of the submitted ideas. We find that using a peer of the employees as an evaluator increases the number of ideas shared, but it does not impact the number of unique participants who enter the contest. In addition, we find that using peer evaluators leads to an increase in the creativity of the ideas. We find that awarding more prizes to participants does not increase overall participation, but it does increase the number of ideas shared by employees from underrepresented demographics. Awarding more prizes, however, reduces the creativity of the ideas. Together, these results show that contest design choices have an important impact on employee creative idea‐sharing and that managers should carefully consider how to tailor contests to fit their firms' needs.

ABSTRACT We examine how information about the diversity of a potential employer's workforce affects individuals’ job‐seeking behavior. We embed a field experiment in job recommendation emails from a leading career advice agency in the United States. The experimental treatment involves highlighting a diversity metric to jobseekers. Our results indicate that disclosing diversity scores in job postings leads jobseekers to click on firms with higher diversity scores, with such effects varying across jobseeker demographics. A follow‐up survey provides evidence on potential explanations for why jobseekers value diversity information. We then examine how jobseekers’ preferences for diversity relate to disclosure choices under the U.S. SEC Human Capital Disclosure requirement. We find that firms in industries characterized by higher jobseeker responsiveness to diversity information tend to voluntarily disclose diversity metrics in their 10‐Ks under these new disclosure requirements.

ABSTRACT We investigate the effects of financial reporting on current employee job search, that is, whether firms' public financial reports cause their employees to reevaluate their jobs and consider leaving. We develop theory for why current employees use earnings announcements (EAs) to inform job search decisions, and empirically investigate job search based on employees' activity on a popular job market website. We find that job search by current employees increases significantly during EA weeks, especially when employees are more mobile and when their information frictions are greater. We also find that employees use EAs to update their expectations about their employers' economic prospects, consistent with learning, and some evidence that positive announcements elicit less search. Our paper contributes to the burgeoning labor and accounting literature by providing among the first evidence closely linking financial reports to employee learning and job search.

ABSTRACT Reward systems based on balanced scorecards often connect pay to an index, that is, a weighted sum of multiple performance measures. We show that such an index contract may indeed be optimal if performance measures are nonverifiable so that the contracting parties must rely on self‐enforcement. Under commonly invoked assumptions (including normally distributed measurements), we show that the weights in the index reflect a tradeoff between distortion and precision for the measures. The efficiency of the contract improves with higher precision of the index measure, because this strengthens incentives, and correlations between measurements may for this reason be beneficial. There is a caveat, however, because the index contract is not necessarily optimal for very precise measurements, although it is shown to be asymptotically optimal. We also consider hybrid measurements, and show that the principal may want to include verifiable performance measures in the relational index contract in order to improve incentives, and that this has noteworthy implications for the formal contract.