Intended Benefits and Unintended Consequences of Improved Performance Disclosure, Job Market Paper
ABSTRACT: I document significant unintended consequences of a seemingly innocuous, well-intentioned disclosure rule change. In 1998, the SEC required that all funds disclose a self-selected, primary benchmark. I find that investor sensitivity to excess benchmark returns increases after 1998. Fund manager responses to the disclosure change resulted in significant real effects and externalities. I find that two-thirds of funds select an inaccurate benchmark and outperform non-strategic funds via higher risk taking. The new disclosures also exacerbate the well-documented tendency of underperforming fund managers to increase risk in the second half of the year.
CFO Co-Option and CEO Compensation, with Shane S. Dikolli, William J. Mayew, and Mani Sethuraman (Second-round “minor revision” at Management Science)
ABSTRACT: We study whether power dynamics in the CEO-CFO relationship influence the CEO’s compensation. To operationalize CEO-CFO power dynamics, we define CFO co-option as the appointment of a CFO after a CEO assumes office. We find that CFO co-option is associated with a CEO pay premium of about 5.5%, which is partially explained by a higher likelihood that the firm achieves analyst based earnings targets. Our evidence also indicates that the primary mechanism through which co-opted CFOs achieve earnings targets is by walking down analyst forecasts over a fiscal year rather than using discretionary accruals to inflate earnings. The evidence thus suggests that co-opted CFOs are more likely to manage expectations about earnings rather than manage earnings directly to achieve earnings targets.
Aggregate Accruals and Market Returns: The Role of Aggregate M&A Activity, with Suresh Nallareddy and Mohan Venkatachalam
ABSTRACT: Extant literature documents that aggregate accruals positively predict future market returns and attribute this to change in discount rates or systematic earnings management. We offer an alternative explanation and provide supporting evidence that the positive relation between aggregate accruals and future market returns is due to aggregate merger and acquisition (M&A) activity. Aggregate M&A activity affects the magnitude of aggregate accruals estimated from the balance sheet, and drives the market return predictability of accruals. Controlling for the aggregate M&A activity, we find that the robust positive relation between aggregate accruals and future market returns disappears, and instead aggregate M&A activity predicts future market returns. Moreover, the positive relation between discretionary aggregate accruals (a measure of systematic earnings management) and market returns also disappears after controlling for the aggregate M&A activity.
The Death of Stock Splits: An Increase in the Costs to Split, with Qin Tan and Frank Zhang
ABSTRACT: Stock split activity has significantly declined in recent years. From the 1980s to the 2010s, the proportion of public firms that would engage in at least one stock split per year on average has declined from 8.6% to just 1.0%. We first show that abnormal returns in the post-split period decline from 11.4% for firm-years 1980-1989 to just 3.4% for firm years 2010-2017, indicating that the benefits to splitting have declined substantially. We also show that this decline only occurs for publicly listed companies—abnormal returns for exchange traded and closed-end funds do not vary significantly over this period. Second and more important, we document a previously unknown cost of stock splits, leading to decreasing net benefits from stock split activity over the same period. Namely, stock splits make earnings targets more difficult to beat, an issue that becomes more important as firms face increasing capital market pressure over time. Overall, we conclude that the signaling benefits of stock splits have declined while costs have increased, leading most firms to abstain from splitting their shares.