Corporate Culture and Mergers and Acquisitions: Evidence from Machine Learning

Abstract: This paper presents new large sample evidence on the role of corporate culture in mergers and acquisitions (M&As) and how corporate culture evolves over time. Our starting point is the most often-mentioned values by the S&P 500 firms on their corporate Web sites (Guiso, Sapienza, and Zingales 2015): innovation, integrity, quality, respect, and teamwork. Using the latest machine learning technique and earnings conference call transcripts, we obtain corporate cultural values for a large sample of firms over the period 2003–2017. We find that firms score high on the cultural value of innovation are more likely to be acquirers, whereas firms score high on the cultural values of quality and respect are less likely to be acquirers. In terms of merger pairing, we find that firms closer in cultural values, particularly, of innovation, quality, or teamwork, are more likely to do a deal together, whereas firms further apart in cultural values are less likely to do the same. Moreover, we show that firm-pairs sharing the dominant culture of teamwork take a shorter time to complete an announced deal and are associated with fewer post-merger integration challenges, whereas firm-pairs dominant in different cultural values of quality versus teamwork are associated with poor stock market performance and more post-merger integration challenges and retention issues. Finally, we show that post-merger, acquirer cultural values are positively associated with pre-merger target firms’ cultural values, suggesting acculturation. We conclude that corporate culture plays an important role in M&As and corporate culture itself is also shaped by M&As.

Author: Kai Li, Feng Mai, Rui Shen, Xinyan Yan

Date: April, 2018

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Coordinated Engagements

Abstract: We study the nature of and outcomes from coordinated engagements by a prominent international network of shareholder activists cooperating to influence firms on environmental and social issues. We find a two-tier engagement strategy, combining lead active investors with supporting investors, is effective in successfully achieving the stated engagement goals and subsequently improving target performance. An activist is more likely to lead the collaborative dialogue when its stake in the target firm is higher and when the target is domestic. Success rates are elevated when the lead investors are domestic, supporting investors are international, and the investor coalition is influential.

Authors: Elroy Dimson, Oğuzhan Karakaş, Xi Li

Date: December 24, 2018

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The Role of Financial Conditions in Portfolio Choices: The Case of Insurers

Abstract: Many institutional investors depend on the returns they generate to fund their operations and liabilities. How do these investors’ financial conditions affect the management of their portfolios? We address this issue using the insurance industry because insurers are large investors for which detailed portfolio data are available, and can face financial shocks from exogenous weather-related events. Results suggest that more constrained insurers have smaller portfolio weights on riskier and illiquid assets, and have lower realized returns. Among corporate bonds, for which we can control for regulatory treatment, results suggest that more constrained insurers have smaller portfolio weights on riskier corporate bonds. Following operating losses, P&C insurers decrease allocations to riskier corporate bonds. The effect of losses on allocations is likely to be causal since it holds when instrumenting for P&C losses with weather shocks. The change in allocations following losses is larger for more constrained insurers and during the financial crisis, suggesting that the shift toward safer securities is driven by concerns about financial flexibility. The results highlight the importance of financial flexibility to fund operations in institutional investors’ portfolio decisions.

Authors: Shan Ge, Michael S. Weisbach

Date: May 31, 2019

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Multinational Firms and the International Transmission of Crises: The Real Economy Channel

Abstract: This paper studies investment and employment at a subsidiary located in a non-crisis country if its parent firm also has a subsidiary in a crisis country. It finds that investment is about 18% lower in the subsidiaries of these parents relative to the same-industry, same-country subsidiaries of multinational firms that do not have a subsidiary in a crisis country. Net new hiring of employees in these subsidiaries is also lower in these subsidiaries. These results hold for the parents that are unlikely financially constrained and are robust to controlling for subsidiary and parent size, parent cash flow, subsidiary country, industry, year, and parent country, as well as using alternative crisis definitions.

Authors: Jan Bena, Serdar Dinc, Isil Erel

Date: May 2, 2017

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How Companies Can Use Hedging to Create Shareholder Value

Abstract: The key to companies successfully using hedging to create shareholder value is communication. It sounds simple, but the inability to communicate the structure and success of this risk management strategy could destroy – rather than preserve a firm’s value. Risk management managers have to clearly articulate to top management and board members why the hedge is needed and the source of the potential benefit. Managers also must make investors aware that some losses may occur.

Author: René Stulz

Date: Fall 2013

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How Much for a Haircut? Illiquidity, Secondary Markets and the Value of Private Equity

Abstract: Limited partners (LPs) of private equity funds commit to invest with extreme levels of illiquidity and significant uncertainty regarding the timing of capital flows. Secondary markets have emerged which alleviate some of the associated cost. This paper develops a subjective valuation model incorporating these institutional features. Model-implied breakeven returns are close to empirically observed average fund returns for moderately risk tolerant LPs with private equity allocations up to 40%. Likewise, optimal portfolio allocations for these LPs are similar to those observed in practice. More risk averse LPs optimally place little, but not zero, weight on private equity.

Author: Berk A. Sensoy, Nicholas P. B. Bollen

Date: March 2, 2016

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The Use of Multiple Risk Management Strategies: Evidence from the Natural Gas Industry

Abstract: Starting in 1978 and continuing throughout the 1980s, natural gas pipelines faced a series of regulatory changes, including price deregulation, which changed their exposures to price and quantity risk. We exploit this unique environment and examine cross-sectional and time-series patterns in the use of multiple risk management strategies by pipeline companies. Natural gas pipelines use a combination of such strategies, including gas storage, cash holdings, line-of-business and geographic diversification, and commodity derivatives to hedge their increasing risks. Gas storage shows a complementary relation to holding cash and using derivatives to mitigate these risks. However, differences in the financial characteristics of derivatives hedgers and storage hedgers suggest that firms use derivatives to manage price risk and store gas to manage volume risk. Derivatives hedgers are similar to firms that diversify. In addition, firms that engage in hedging activities have smaller and less variable sensitivities to price changes than firms that do not, especially post-deregulation.

Author: Christopher C. Géczy, Benadette A. Minton, Catherine Schrand

Date: May 11, 2006

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A Theory of Risk Capital

Abstract: We present a theory of risk capital and of how tax and other costs of risk capital should be allocated in a financial firm. Risk capital is equity investment that backs obligations to creditors and other liability holders and maintains the firm’s credit quality. Credit quality is measured by the ratio of the value of the firm’s option to default to the default-free value of its liabilities. Marginal default values provide a full and unique allocation of risk capital. Efficient capital allocations maintain credit quality and preclude risk shifting. Our theory leads to an adjusted present value (APV) criterion for making investment and contracting decisions. We set out implications for risk management and corporate finance.

Author: Isil Erel, Stewart C. Myers, James Read

Date: April 21, 2014

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Why Did Holdings of Highly Rated Securitization Tranches Differ So Much Across Banks?

Abstract: We provide estimates of holdings of highly rated securitization tranches of U.S. bank holding companies before the credit crisis and evaluate hypotheses that have been advanced to explain them. Whereas holdings exceeded Tier 1 capital for some large banks, they were economically trivial for the typical bank. Banks with high holdings were not riskier before the crisis using conventional measures, but they performed poorly during the crisis. We find that holdings of highly rated tranches were correlated with a bank’s securitization activity. Theories unrelated to the securitization activity, such as “bad incentives” or “bad risk management,” are not supported in the data.

Author: Isil Erel, Taylor Nadauld, René M. Stulz

Date: February 4, 2015

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