Capital Control

Kevin Lewis

February 07, 2023

Investing in Influence: Investors, Portfolio Firms, and Political Giving
Marianne Bertrand et al.
NBER Working Paper, January 2023 


Institutional ownership of U.S. corporations has increased ten-fold since 1950. We examine whether these new concentrated owners influence portfolio firms’ political activities, as a window into the larger question of whether institutional investors can wield their control to extract benefits from portfolio firms. We find that after the acquisition of a large stake, a firm’s political action committee (PAC) giving mirrors more closely that of the acquiring investment management company (in our preferred specification, a 31 percent increase in comovement). This pattern is observed for acquisitions driven by new index inclusions, which suggests that our findings result from a causal effect of acquisitions rather than other correlated shifts in political agendas. We argue that investors drive the convergence in giving -- the effects are driven by more “partisan” investors, and we show that firms shift their giving more around acquisitions than investors do. Overall, our findings suggest that corporations’ political business strategies are likely dictated by broader considerations than simple profit, and modeling corporate influence should take into account how corporations are governed.

Director Job Security and Corporate Innovation
Po-Hsuan Hsu et al.
Journal of Financial and Quantitative Analysis, forthcoming 


In this paper, we show that firms can become conservative in innovation when their directors face job insecurity. We find that after the staggered enactment of majority voting legislation that strengthens shareholders’ power in director elections, firms produce fewer patents, particularly exploratory patents, and fewer forward citations. This effect is stronger for directors facing higher dismissal costs or threats and for firms with greater needs for board expertise and is mitigated by institutional investors’ expertise in innovation. Overall, our results suggest that heightened job insecurity induces director myopia, which leads to a reduction in investment in risky, long-term innovation projects.

Motivated Corporate Political Action: Evidence from an SEC Experiment
Mary Alice Kroeger & Maria Silfa
Journal of Politics, forthcoming 


Do bureaucratic actions trigger political engagement by firms? From 2005 through 2007, the Securities and Exchange Commission (SEC) conducted a pilot study, for which they exempted a third of the stocks in the Russell 3000 Index from short-selling price restrictions. This case presents a unique opportunity to study the connection between governmental regulation and firms’ costly political engagement in an experimentally-manipulated setting. Using a difference-in-differences design, we find that firms exempted from price restrictions on short selling are more likely to lobby than the rest of the firms in the pilot study. In contrast, there is no discernible effect on treated firms’ PAC contribution patterns. This study helps clarify the strategic motivations behind why firms differentially engage in political activity.

Managerial Overconfidence and Market Feedback Effects
Suman Banerjee et al.
Management Science, forthcoming 


We show that managerial learning from stock prices can lead to feedback loop vulnerability: corrective actions based on perceived negative market signals reduce the sensitivity of asset payoffs to stock market information. Less sensitivity discourages liquidity provision and increases the price impact of liquidity shocks. Interestingly, overconfident managers who disregard stock price information may be less vulnerable to the adverse price impact of nonfundamental liquidity shocks. Our empirical evidence strongly supports the model’s underlying premises and predictions: First, investment decisions of overconfident CEOs are significantly less responsive to stock price fluctuations. Second, the price impact of liquidity shocks, for example, mutual fund fire sales, is substantially smaller for firms with overconfident CEOs.

Does Greater Public Scrutiny Hurt a Firm’s Performance?
Benjamin Bennett, René Stulz & Zexi Wang
NBER Working Paper, January 2023 


Public attention to a firm may provide valuable monitoring, but it may also have a dark side by constraining management’s decisions and distracting it. We use inclusion in the S&P 500 index as a positive shock to public attention. Media coverage, Google searches, SEC downloads, SEC comment letters, shareholder proposals, analyst coverage, and lawsuits increase following inclusion. Post-inclusion performance falls and is negatively related to the increase in attention. Included firms’ investment and payout policies become more similar to those of index peers and the increase in similarity is positively related to the size of the attention increase.

New kids on the block: The effect of Generation X directors on corporate performance
ZhaoZhao He, Mihail Miletkov & Viktoriya Staneva
Journal of Empirical Finance, forthcoming


Generation X directors are slowly replacing Baby Boomers on U.S. corporate boards and will eventually dominate corporate boardrooms in the U.S. and around the world. We provide the first empirical evidence that the presence of Generation X directors is associated with better corporate performance. The Generation X effect is not driven by other director attributes such as sex, ethnicity, or professional expertise, and is robust to instrumental variables estimation. The result is also independent from the effect of director age which, although related to director’s generational identity, captures something fundamentally different and is controlled for in all our regressions. Finally, we document that companies with Generation X directors engage in value enhancing ESG and innovation activities and facilitate the inclusion of women on the board.

How pervasive is corporate fraud?
Alexander Dyck, Adair Morse & Luigi Zingales
Review of Accounting Studies, forthcoming 


We provide a lower-bound estimate of the undetected share of corporate fraud. To identify the hidden part of the “iceberg,” we exploit Arthur Andersen’s demise, which triggered added scrutiny on Arthur Andersen’s former clients and thereby increased the detection likelihood of preexisting frauds. Our evidence suggests that in normal times only one-third of corporate frauds are detected. We estimate that on average 10% of large publicly traded firms are committing securities fraud every year, with a 95% confidence interval of 7%-14%. Combining fraud pervasiveness with existing estimates of the costs of detected and undetected fraud, we estimate that corporate fraud destroys 1.6% of equity value each year, equal to $830 billion in 2021.

Becoming Virtuous? Mutual Funds’ Reactions to ESG Scandals
Bastian von Beschwitz, Fatima Zahra Filali Adib & Daniel Schmidt
Federal Reserve Working Paper, November 2022 


We study how mutual funds respond to ESG scandals of portfolio companies. We find that, after experiencing an ESG scandal in their portfolio, active mutual fund managers (but not passive ones) are more likely to vote in favor of ESG proposals compared to other funds without scandal exposure voting on the same proposal. This result is more pronounced when the scandal stock has a larger portfolio weight and when the scandal is less expected. It is also pronounced when the scandal is accompanied by more negative stock returns, suggesting that fund managers change behavior out of performance considerations rather than a shift in personal preferences. Finally, we show that, following a scandal, mutual funds reduce their stakes in the highest-ESG risk stocks; i.e., they shy away from engaging exactly with those firms for which the impact of engagement may be the greatest.

Managerial litigation risk and corporate investment efficiency: Evidence from universal demand Laws
Leonard Leye Li, Gary Monroe & Jeff Coulton
Journal of Empirical Legal Studies, forthcoming 


We examine the effect of managerial litigation risk on corporate investment efficiency. Exploiting the staggered adoption of universal demand (UD) laws in the United States and employing a stacked regression approach, we find that the exogenous reduction in litigation risk induced by UD laws leads to lower investment efficiency. Our results are robust to the use of alternative partitioning variables and variations in sample composition. We also find that the decrease in investment sensitivity and excessive risk-taking are channels through which the reduced litigation rights lead to less efficient investments. Our results support the notion that weakened shareholder litigation rights lead to more severe agency conflicts and thus less efficient investment decisions.

The Market for CEOs: Evidence from Private Equity
Paul Gompers, Steven Kaplan & Vladimir Mukharlyamov
NBER Working Paper, January 2023 


Most research on the CEO labor market studies public company CEOs while largely ignoring CEOs in private equity (PE) funded companies. We fill this gap by studying the market for CEOs among U.S. companies purchased by PE firms in large leveraged buyout transactions. 71% of those companies hired new CEOs under PE ownership. More than 75% of the new CEOs are external hires with 67% being complete outsiders. These results are strikingly different from studies of public companies, particularly, Cziraki and Jenter (2022) who find that 72% of new CEOs in S&P 500 companies are internal promotions. The most recent experience of 67% of the outside CEOs was at a public company with almost 50% of external hires having some previous experience at an S&P 500 firm. We estimate the total compensation of buyout CEOs and find that it is much higher than that of CEOs of similarly sized public companies and slightly lower than that of S&P 500 CEOs. Overall, our results suggest that the broader market for CEOs is active and that, at least for PE funded portfolio companies, firm-specific human capital is relatively unimportant.

Director age and corporate innovation: Evidence from textual analysis
Pongsapak Chindasombatcharoen et al.
Journal of Behavioral and Experimental Finance, forthcoming 


Motivated by agency theory and resource dependency theory, we explore whether director age influences firm’s innovation. Using textual-based innovation measures proposed by Bellstam, Bhagat and Cookson (2019), we find that older directors impede the firm’s innovation. Our findings are robust to additional analyses including 2SLS instrumental variable and GMM dynamic panel data estimations and unlikely to be driven by unobserved heterogeneity. We provide evidence supporting agency theory where information asymmetry inherent in innovation investment leads to substantial agency costs.

When Does Higher Firm Leverage Lead to Higher Employee Pay?
Timothy Dore & Rebecca Zarutskie
Review of Corporate Finance Studies, February 2023, Pages 36–77 


We show that newly hired workers earn higher wages in response to higher firm leverage. Consistent with compensating differential models, these higher wages appear to reflect compensation for the risk of earnings losses in the event of financial distress. For tenured workers, increases in leverage are not associated with higher wages. Our findings suggest that the wage costs of debt and optimal capital structure for a firm depend on expected employee turnover, as well as on the firm’s future growth and hiring plans. Variation in local labor market conditions also significantly affects the relationship between firm leverage and employee pay.


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