Knowledge that Transforms

Relaxation of the national association of securities dealers (NASD) limit on overallotment option use in 1983 provides a natural experiment to test the substitutability or complementarity of underwriting contract terms in initial public offerings. For firms that would find the initial limit constraining, use of terms that are substitutes (complements) should decrease (increase) after the limit is raised. The evidence indicates that warrant compensation and overallotment options are substitutes. Underwriter reputation and overallotment options are substitutes if warrants are used as compensation and complements otherwise. The significant change in contract terms after 1983 suggests the initial NASD policy was costly.

This paper examines multiple-bidder corporate control contests involving white knights, who are late-entry collaborative bidders. We employ auction theory to structure the analysis and examine the valuation consequences for bidding firms. An immediate white knight response to a hostile bid is met with a strong, negative market reaction. When the white knight and hostile bidder get into a ‘bidding war’ with follow-up bids by each, the white knight (but not the hostile bidder) loses each time it bids. However, if the white knight bid follows two consecutive, hostile bids and the contest ends, there are minimal losses to the white knight, which are statistically indistinguishable from the mildly positive reaction to the preceding hostile bids.

This paper presents an IPO signaling model in which some issuers signal their higher quality not only by underpricing their IPO more, but also by waiting more patiently before they sell the remainder of the firm in a seasoned equity offering (SEO). In contrast to earlier models, this model offers empirical predictions (including functional forms) on easily observable variables: the IPO underpricing, after-market returns (reflecting the issuer's actions), and the timing of the SEO. The paper can thus calibrate and better test the theory. The evidence is that [a] signaling high-quality issuers are worth 2–3 times more than non-signaling low-quality firms; [b] the market recognizes the true quality of a firm with probability 30% per year; and [c] patience (i.e. waiting for extra funding) costs issuers about 15% of their value each year.

We argue that when the offer price of an initial public offering (IPO) is set many days before the issue closes for bidding by investors, relevant price information leaks and becomes public knowledge before investors have finished bidding for firm's shares. Consequently, there are instances when all investors realize ex ante that the offer price is ‘too low’ and we observe a large oversubscription for the firm's shares, as well as instances when the investors realize that the offer price is ‘too high’ and the issue fails. If failure is costly, then the offering is underpriced in order to reduce the likelihood that the issue will fail. This is in addition to the underpricing, as suggested in Rock (1986), to compensate the uninformed investors for the adverse selection problem they face in the allocation of shares. Our argument thus explains why underpricing may be larger in situations when there is information leakage. We further argue that if the issuer collects the interest float on checks deposited by investors for shares they bid, this interest revenue reduces the cost associated with underpricing and thus provides an incentive to underprice the issue further. Our analysis explains some stylized facts about differences in oversubscription and underpricing across countries and allows us to explore some empirical and policy implications. For instance, we show that the method used in the United Kingdom and in most Asian countries may lead to more underpricing and more extreme levels of oversubscription than the method used for firm commitment offerings in the United States.

An active market for corporate control has prompted corporate managers to lobby for measures that protect their positions. It has been argued that corporate managements have worked to entrench themselves at the expense of outside shareholders and have pressured institutional investors (including banks) to vote on corporate matters in a manner supportive of managements' proposals. One source of potential pressure arises when bank fiduciaries manage employee savings plans, pension funds, and engage in other fee generating corporate trust activities for firms whose shares they vote. In addition, banks often extend commercial credit to firms whose shares the trust division votes. Finally, director interlock between banks and corporations is likely to bias voting behavior. Fiduciary loyalty may be compromised by bankers' concern that failure to support management can threaten business relationships. The objective of this study is to investigate the effects of conflicting relationships on the voting behavior of banks as fiduciaries. The empirical results indicate that where director interlock and income-related relationships exist, banks tend to vote in favor of management antitakeover proposals; however, where these business relationships do not exist banks tend to vote against such proposals.

This study examines the use of dividend provisions in executive compensation contracts to influence dividend policy. A sample is constructed with the largest companies in the oil and gas, defense/aerospace and food processing industries, where dividend-related agency costs are expected to be high. The results indicate that the existence of a dividend incentive in the compensation plan is positively associated with higher dividend payouts and yields, and higher annual changes in dividend levels. Evidence is also provided on firm characteristics associated with the use of a compensation contract with a dividend provision. The results are consistent with the theory that firms link compensation incentives to dividend payments to reduce conflicts between shareholders and management over dividend decisions.

Laws prescribing public disclosure of firms' financial performance create asymmetries between integrated multi-plant organizations and independent single-plant firms as to the release of information about firm profitability. The paper analyses how such asymmetries affect the merger choice through their impact on union power. Merging different production units into one firm has the effect of reducing plant unions' information about the surplus their members help produce. This in turn reduces their bargaining power and hence there arises an incentive for firm owners to merge their assets even in the absence of pecuniary or technical externalities between plants.

This study offers several new perspectives on the effects of competition in takeover contests on bidder returns. Using a more extensive database than existing studies and employing several different measures of success in takeovers, we find that success in competitive acquisitions decreases shareholder wealth relative to both failure and success in observed single-bidder takeovers. Further, we consider and test hypotheses regarding bidder returns, including hypotheses suggested by the preemptive bidding theory. In general, our results neither support the preemptive bidding theory nor the hypotheses linking the method of payment and the observed level of competition. We also test hypotheses relating to returns across the multiple events in a multiple-bid contest that competition among bidders generates. The results of these tests underscore the importance of timing as well as success of a bid to the bidder's subsequent performance.

This study examines some economic and organizational changes resulting from the conversion of mutual thrift institutions (MTI) to publicly traded stock charter corporations. We focus on the relation between the initial value of the converted firm and (i) subscription decisions by management and by regular depositors, and (ii) the employment of a prestigious underwriter or auditor. Whereas the proportion of managerial subscriptions displays a convex relation with the firm's initial value, the relation between the regular depositor subscription and the converted firm's value is linear and positive. The status of the underwriter or auditor is unrelated to the value of the converted firm. These findings are attributed to the regulatory setting governing the MTI conversion process, constraints on ownership holdings and the oversight function of the regulator.

This paper examines the relation between commodity futures trading and the real side contracting behavior of firms dealing in the commodity. I argue that futures serve as a flexible form of physical contracting and should be examined in the context of the firm's contracting activities, and not strictly in the context of its financial activities. Data from an oil refining company are used to empirically study this relation. The results are consistent with a contracting view of futures use and appear inconsistent with implications of hedging theories.