Knowledge that Transforms

A rich literature argues that stock repurchases often serve as positive economic signals beneficial to investors. Yet due to their inherent flexibility, open-market repurchase programs have long been criticized as weak signals lacking commitment. We evaluate whether some managers potentially use buyback announcements to mislead investors. We focus on cases where managers were seemingly under heavy pressure to boost stock prices and might have announced a repurchase only to convey a false signal. For suspect cases, the immediate market reaction to a buyback announcement does not differ from that generally observed. However over longer horizons, suspect firms do not enjoy the improvement in economic performance otherwise observed. Suspect firms repurchase less stock. Further, managers in suspect firms have comparatively higher exposure to stock options, a potentially endogenous result suggesting greater sensitivity to both stock valuation and to future equity dilution. Overall, the results suggest only a limited number of managers may have used buybacks in a misleading way as “cheap talk.” Yet as theory also suggests, we find no long-run economic benefit to this behavior.

I develop a stationary real options model with corporate restructuring costs that endogenously generates a diversification discount. This result requires that restructuring costs associated with spin-offs (refocusing moves) be significantly larger than those associated with acquisitions (diversifying moves). The discount is due to the fact that diversified firms performing poorly will still delay refocusing, given the high cost of implementing this strategy. The model delivers the counter-intuitive implication that the higher the (average) discount observed in the economy, the higher the (average) proportion of diversified firms.

Using the Delaware Supreme Court's Time-Warner decision of July 1989 as a focal point, we study defeated takeover bids before and after July 1989 to assess the direct effects of stronger takeover impediments on takeover defense tactics used to defeat bids and the resulting shareholder wealth outcomes and managerial turnover. We find that firms that defeated takeover bids after July 1989 shifted away from the use of active takeover defenses (repurchases, special dividends, greenmail, and leverage increases). Nevertheless, shareholders of firms that defeat a takeover experienced slightly better wealth outcomes in the 1990s than in the 1980s. We also find increased managerial turnover rates after defeating a takeover bid post Time-Warner, suggesting that managers that defeat hostile takeover bids did not become more entrenched due to greater takeover impediments relative to prior years.

We describe four channels through which breakups can potentially increase idiosyncratic volatility for parent firms. These are: loss of diversification (portfolio effect), change in growth opportunities, change in operational efficiency, and the flow and assimilation of information (information effect). The relevance of each channel depends on the mode of a breakup. We explain conceptually and show empirically, using a sample of 530 breakups (259 spinoffs and 271 equity carveouts), that the portfolio effect is dominant for spinoff parents, while the information effect gains importance for carveout parents. Our novel insight is that the magnitude of the information effect depends on the pre-announcement information set held by investors; we provide a simple state-space model and empirical evidence to support this intuition. We also find a relation between the change in operational efficiency and the change in idiosyncratic volatility for spinoff parents.

We examine voluntary disclosures around the exercise of CEO stock options. Previous research shows that managerial incentives depend on the intended disposition of the exercised options' underlying shares. When CEOs intend to sell the underlying shares of exercised options, they have an incentive to increase stock prices in the pre-exercise period. In contrast, when CEOs intend to hold the underlying shares, they have a tax incentive to decrease stock prices in the pre-exercise period. Consistent with these private incentives, we find a significant increase in the frequency and magnitude of good (bad) news announcements in the pre-exercise period when CEOs implement exercise-and-sell (exercise-and-hold) strategies. We provide some evidence that CEOs' propensities for opportunistic disclosures are positively related to the value of their exercised stock options. Lastly, we find that the Sarbanes–Oxley Act (SOX) generally reduces, but does not eliminate, this type of managerial opportunism.

In recent years boards have become significantly more likely to implement non-binding, majority-vote (MV) shareholder proposals. Using a sample of 620 MV proposals between 1997 and 2004, we find that shareholder pressure (e.g., the voting outcome and the influence of the proponent) and the type of proposals are the main determinants of the implementation decision, while traditional governance indicators do not seem to affect the decision. We then examine the labor market consequences of the implementation decision for outside directors and find that directors implementing MV shareholder proposals experience a one-fifth reduction in the likelihood of losing their board seat as well as other directorships.

We examine the firm's choice between an SEO and a PIPE, an innovation in follow-on equity selling mechanism seen in the late 1990s. Our primary finding indicates that the rapid rise of the PIPE market fills the capital needs of firms which may not have access to more traditional alternatives. This lack of access is driven mainly by information asymmetry and weak operating performance. We also show that firms are more likely to choose PIPEs when the general market and the firm's stock are performing poorly. Furthermore, we find that selected firms with access to the public market may prefer a PIPE due to specific cost considerations.

Moral hazard and asymmetric information have both been proposed as the motive behind the use of IPO lockup provisions, with each receiving empirical support in the literature. Rather than consider them to be mutually exclusive motivations, we hypothesize that each is dominant for a different set of firms. We provide novel empirical support for the underwriter certification hypothesis then use this hypothesis to categorize the firms in our sample. Firms that are certified by a reputable underwriter see a reduction in the severity of asymmetric information relative to other firms and therefore will be more likely to see moral hazard as the friction that motivates the use of the lockup provision. For those firms that are unable to obtain high reputation underwriter certification it is relatively more likely that asymmetric information is the motivation for the use of the lockup provision. Based on this separation of firms we introduce and provide empirical support for a novel set of hypotheses concerning the lockup period.

In this paper, we develop new insights about the dynamics of corporate dividend policy by performing the natural experiment of comparing corporate dividend policies in Hong Kong and the U.S., two economies where the tax regime and equity ownership structure are significantly different. Our empirical results can be summarized as follows. First, a test of the Lintner model reveals that the extent of dividend smoothing by firms in Hong Kong is significantly less than those in the U.S. Second, the signaling effects of dividend changes on stock returns are stronger in the U.S. compared to those in Hong Kong. Third, our logit analysis of the determinants of dividend changes indicates that, while the lagged dividend yield significantly affects dividend changes in both countries in the same fashion, prior year stock returns have opposite effects on dividend changes in the two countries. Finally, the extent of dividend smoothing is not systematically related to blockholder equity ownership in either country. Overall, our results suggest that, compared to U.S. firms, Hong Kong firms pursue a more flexible dividend policy commensurate with earnings, and that the differences between the dividend policies of firms in the two countries are consistent with the signaling implications of the differences in the tax regime across the two countries.

We find that the likelihood and severity of financial misreporting is positively related to aggregate institutional ownership and this effect can be largely attributed to ownership by institutions with short investment horizons — those with little incentive to engage in costly monitoring of firm activities and precisely those that sell at the announcement of a restatement. We also find that the concentration of holdings by these institutions offsets this effect, which suggests concentrated ownership induces greater monitoring and mitigates the incentives for firms to misreport. Our results suggest that any link between myopic firm decision making and institutional ownership may be related to the nature of institutional monitoring.