Posts Tagged ‘Equity capital’

Equity Overvaluation and Short Selling

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Friday April 18, 2014 at 9:02 am
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Editor’s Note: The following post comes to us from Messod Daniel Beneish, Professor of Accounting at Indiana University, Bloomington; Charles M. Lee, Professor of Accounting at Stanford University; and Craig Nichols, Assistant Professor of Accounting at Syracuse University.

In our paper, In Short Supply: Equity Overvaluation and Short Selling, which was recently made publicly available on SSRN, we use detailed equity lending data to examine the role of constraints on equity prices. We find that constrained stocks underperform, the short interest ratio (SIR) has a nonlinear association with constraints, constrained stocks have negative returns regardless of short interest ratio, high short interest yet unconstrained stocks do not underperform, yet low short interest unconstrained stocks outperform. Moreover, we show that limited supply is a key feature distinguishing constrained and unconstrained stocks, and that among constrained stocks, those with the lowest supply have the strongest negative returns. Our findings confirm that supply varies across firms (in contrast to SIR, which assumes supply is 100 percent of outstanding shares for all stocks) and short supply in the equity lending market has implications for the informational efficiency of equity prices.

…continue reading: Equity Overvaluation and Short Selling

2013 Private Equity Year in Review

Posted by Andrew J. Nussbaum, Wachtell, Lipton, Rosen & Katz, on Monday January 6, 2014 at 9:29 am
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Editor’s Note: Andrew J. Nussbaum is a partner in the corporate department at Wachtell, Lipton, Rosen & Katz. The following post is based on a Wachtell Lipton firm memorandum by Mr. Nussbaum, Steven A. Cohen, Amanda N. Persaud, and Joshua A. Feltman.

Private equity deal activity ebbed and flowed, often unexpectedly, in 2013. Despite some slow periods, strong debt and equity markets helped support first nine-months numbers that are well ahead of 2012, although Q4 2013 is unlikely to match Q4 2012, where activity was stimulated by anticipated changes in the tax laws. Successful sponsors again demonstrated their ability to perceive and exploit changing market conditions. Moreover, the private equity industry posted its best fundraising numbers in years. It was a year that showed that Semper Paratus may indeed be the industry’s new motto.

…continue reading: 2013 Private Equity Year in Review

Focusing on Fundamentals: The Path to Address Equity Market Structure

Posted by Mary Jo White, Chair, U.S. Securities and Exchange Commission, on Wednesday October 16, 2013 at 9:15 am
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Editor’s Note: Mary Jo White is Chair of the U.S. Securities and Exchange Commission. This post is based on Chair White’s remarks to the Security Traders Association 80th Annual Market Structure Conference; the full text, including footnotes, is available here. The views expressed in this post are those of Chair White and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

As market professionals, you obviously live the U.S. equity markets first hand, day in and day out. As an association, you have used your voice to focus attention on the value of our equity markets—an all-important engine for capital formation, job creation, and economic growth.

Like you, I believe that we must constantly strive to ensure that the U.S. equity markets continue to serve the interests of all investors. That mutual challenge must come fully of age and address today’s, not yesterday’s, markets. And today, I will speak about the path forward.

…continue reading: Focusing on Fundamentals: The Path to Address Equity Market Structure

Executive Pay Disparity and the Cost of Equity Capital

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Sunday September 15, 2013 at 9:50 am
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Editor’s Note: The following post comes to us from Zhihong Chen of the Department of Accountancy at City University of Hong Kong, Yuan Huang of the School of Accounting and Finance at Hong Kong Polytechnic University, and K.C. John Wei, Professor of Finance at Hong Kong University of Science & Technology (HKUST).

In our paper, Executive Pay Disparity and the Cost of Equity Capital, forthcoming in the Journal of Financial and Quantitative Analysis, we investigate the association between executive pay disparity and the cost of equity capital. Understanding the association is important because the cost of capital is one of the key considerations for managers in their capital budgeting and corporate financing decisions. In fact, the cost of capital is a more direct yardstick of corporate investment and financing decisions than firm valuation. A higher cost of capital means fewer positive net present value (NPV) projects, leading to fewer growth opportunities. In addition, the cost of capital summarizes an investor’s risk-return tradeoff in his resource allocation decision (Pástor, Sinha, and Swaminathan (2008)).

In general, there are two perspectives on executive pay disparity. The tournament perspective views the large pay gap between the CEO and other executives as the prize for a tournament in which players compete for the CEO position (Lazear and Rosen (1981); Kale, Reis, and Venkateswaran (2009)). A large pay disparity motivates non-CEO senior executives to work hard and to invest in firm-specific human capital. This, in turn, helps build a large pool of skilled internal candidates for the CEO position. The availability of skilled internal candidates not only reduces the entrenchment of the incumbent CEO by increasing the bargaining power of the board, but also reduces CEO succession risk. Therefore, this perspective predicts a negative association between executive pay disparity and the cost of capital.

…continue reading: Executive Pay Disparity and the Cost of Equity Capital

Basel Committee Updates Framework for Assessing Equity Surcharge

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Saturday August 17, 2013 at 8:16 am
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Editor’s Note: The following post comes to us from Andrew R. Gladin and Mark J. Welshimer, partners in the Financial Institutions and Corporate and Finance Groups at Sullivan & Cromwell LLP, and is based on a Sullivan & Cromwell publication.

The Basel Committee on Banking Supervision (the “BCBS”) [1] recently issued a revised framework (the “Revised G-SIB Framework”) for assessing a common equity surcharge on certain designated global systemically important banks (“G-SIBs”) [2] that updates and replaces the framework for assessing the G-SIB capital surcharge issued by the BCBS in November 2011 (the “Prior G-SIB Framework”). [3] The Revised G-SIB Framework largely maintains the Prior G-SIB Framework’s indicator-based approach for determining when a capital surcharge will be applied and does not change the calibration of the surcharge. However, the Revised G-SIB Framework makes several noteworthy changes to, and clarifies important aspects of, the Prior G-SIB Framework, including:

…continue reading: Basel Committee Updates Framework for Assessing Equity Surcharge

Financing Through Asset Sales

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Friday May 3, 2013 at 9:32 am
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Editor’s Note: The following post comes to us from Alex Edmans and William Mann, both of the Department of Finance at the University of Pennsylvania.

In our paper, Financing Through Asset Sales, which was recently made publicly available on SSRN, we analyze a source of financing that is first-order in reality but relatively unexplored in the literature — selling non-core assets such as a division or a plant. Asset sales are substantial in practice: in 2010, there were $133bn of asset sales in the U.S., versus $130bn in seasoned equity issuance. In contrast, most existing research on a firm’s financing decisions studies the choice between debt and equity and ignores asset sales. We build a model that allows asset sales to be undertaken not only to raise capital, but also for operational reasons (dissynergies). We study the conditions under which asset sales are preferable to equity issuance and vice-versa, how financing and operational motives interact, and how firm boundaries are affected by financial constraints.

The firm comprises a core asset and a non-core asset. The firm must raise financing to meet a liquidity need, and can sell either equity or part of the non-core asset. Following Myers and Majluf (1984) (MM), we model information asymmetry as the principal driver of this choice. The firm’s type is privately known to its manager and comprises two dimensions. The first is quality, which determines the assets’ standalone (common) values. The value of the core asset is higher for high-quality firms. The value of the non-core asset depends on how we specify the correlation between the core and non-core assets. With a positive (negative) correlation, the value of the non-core asset is higher (lower) for high-quality firms. The second dimension is synergy — the additional value that the non-core asset is worth to its current owner.

…continue reading: Financing Through Asset Sales

Corporate Tax Reform

Posted by Robert C. Pozen, Harvard Business School, on Thursday January 10, 2013 at 9:17 am
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Editor’s Note: Robert Pozen is a senior lecturer at Harvard Business School and a senior fellow at the Brookings Institution. This post is based on a Tax Notes article written by Mr. Pozen and Lucas W. Goodman, titled “Capping the Deductibility of Corporate Interest Expense,” available here.

Amid the current debate over tax policy in Washington, there is a bipartisan consensus on one issue: the corporate tax rate, which is currently 35 percent, should be reduced to roughly 25 percent. At the same time, budgetary pressures preclude any significant increase in the deficit to accomplish corporate tax reform.

In light of these competing demands, most corporate tax reformers advocate broadening the corporate tax base to pay for any rate reduction. Unfortunately, few politicians have put forth base-broadening measures that would generate revenue sufficient to significantly lower the corporate tax rate on a revenue-neutral basis.

In fact, revenue-neutral corporate income tax reform is likely to be very difficult, because corporate tax expenditures represent a relatively small portion of total corporate tax revenues. A preliminary analysis by the Joint Committee on Taxation suggested that the elimination of all corporate tax expenditures—except for the deferral of tax on foreign source profits, a provision whose repeal would be politically and economically infeasible—would allow for the corporate tax rate to be reduced to only 28 percent.

Therefore, if policymakers want to reduce the corporate tax rate on a revenue-neutral basis, they will likely have to adopt other types of reforms to broaden the corporate tax base. Ideally, those reforms should offer the potential for significant revenue gains and reduce economic distortions.

…continue reading: Corporate Tax Reform

Some Improvement in U.S. Public Equity Capital Market Competitiveness

Posted by Hal Scott, Harvard Law School, on Wednesday January 2, 2013 at 8:56 am
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Editor’s Note: Hal Scott is the director of the Program on International Financial Systems at Harvard Law School and the director of the Committee on Capital Markets Regulation. This post is based on a statement from the committee, available here.

The Committee on Capital Markets Regulation (CCMR), an independent and nonpartisan research organization dedicated to improving regulation and enhancing the competitiveness of U.S. public equity capital markets, today released data from the third quarter of 2012. According to the new study, U.S. capital markets reversed the second quarter downgrade and showed slightly improved competitiveness, though most measures of competitiveness still fall short of historical averages. Hal S. Scott, Director of the Committee said, “While foreign companies continue to prefer non-U.S. financial markets for raising capital outside their home markets, and regulatory reform is still needed, this quarter’s data offers a promising sign that competitiveness can be restored to U.S. markets.”

Of the global initial equity offerings conducted outside a company’s home market, 18.3% of these IPOs, by value, were listed on a U.S. exchange. While this measure is at its highest level over the past five years, the U.S. share of this volume remains well below its historical average of 28.7% (1996-2006). These percentages include all IPOs by foreign companies listed on either U.S. public markets or issued through private Rule 144A offerings. Excluding global IPOs that use the Rule 144A markets, the percentage of global IPOs listed on a U.S. exchange rises to 55.9%. However, the total value of these IPOs has decreased from $79.8 billion in 2010 and $39.3 billion in 2011 to only $9 billion thus far in 2012.

…continue reading: Some Improvement in U.S. Public Equity Capital Market Competitiveness

Draft French Financial Transaction Tax

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Monday March 5, 2012 at 9:28 am
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Editor’s Note: The following post comes to us from Gauthier Blanluet, partner focusing on tax, mergers and acquisitions, and capital markets at Sullivan & Cromwell LLP, and is based on a Sullivan & Cromwell publication by Mr. Blanluet and Nicolas de Boynes.

Following the outline released by France’s and Germany’s Ministers of Finance on September 9, 2011, and the publication of a draft directive by the EU Commission on September 28, 2011, draft legislation to introduce a financial transaction tax (the “FTT”) in France was presented by the French government on February 8, 2012. This proposal will now be discussed by the French Parliament.

The scope of the FTT would not be as broad as that of the EU proposal. First, the FTT would be applicable on acquisitions of equity instruments only. Second, the FTT would be due if the equity instrument is issued by a French-listed company with a market capitalization of at least €1bn. The FTT would amount to 0.1% of the value of the equity instrument. The French government estimates that the revenues from the FTT would amount to €1.1bn per year.

Two other specific taxes would also be introduced by the same finance bill: a 0.01% tax would apply to high frequency trading operations located in France (the tax basis would be equal to the value of cancelled orders), and another 0.01% tax would apply to the notional amount of credit default swaps on EU sovereign bonds that are acquired by entities established or individuals domiciled in France.

In addition, the finance bill would repeal the recent reform of French transfer tax rules applicable to transfers of shares.

…continue reading: Draft French Financial Transaction Tax

Mandatory Accounting Standards and the Cost of Equity Capital

Posted by Jim Naughton, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Wednesday January 6, 2010 at 9:03 am
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Editor’s Note: This post comes to us from Siqi Li, Assistant Professor of Accounting at Santa Clara University.

In my forthcoming Accounting Review paper Does Mandatory Adoption of International Financial Reporting Standards in the European Union Reduce the Cost of Equity Capital? I test whether mandatory IFRS adoption affects the cost of equity capital using a sample of 6,456 observations representing 1,084 distinct firms in 18 EU countries during the period of 1995 to 2006. I define firms that do not adopt IFRS until it becomes mandatory in 2005 as mandatory adopters, firms that adopt IFRS before 2005 as voluntary adopters, and I divide the sample period into pre- and post-mandatory adoption periods.

My primary analysis consists of regressing the cost of equity (using average estimates from four implied cost of capital models) on a dummy variable indicating the type of adopter (mandatory versus voluntary), a dummy variable indicating the time period (pre- versus post-mandatory adoption period), the interaction between these two dummies, and a set of control variables that include whether a firm is cross-listed in the U.S., country-specific inflation rate, firm size, return variability, financial leverage, as well as industry and country fixed effects. This difference-in-differences design, which includes the population of both mandatory and voluntary adopters over the period of 1995 through 2006, compares the change in the cost of equity for mandatory adopters before and after the mandatory switch, relative to the corresponding change in the cost of equity for voluntary adopters.

…continue reading: Mandatory Accounting Standards and the Cost of Equity Capital

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