Research

Blocking Block-Formation: Evidence from Private Loan Contracts, accepted at Management Science

Authors: Brian Akins, David De Angelis, Rustam Zufarov

Abstract: Does the structure of the borrower's equity ownership matter in debt contracting? This paper addresses this question by examining change in control clauses. These clauses are pervasive in loan contracts, yet their terms are not boilerplate. Examining 14,940 contracts, we document significant heterogeneity in the use and size of ownership caps, which limit large equity block formation. Overall, our evidence indicates that the way equity capital is distributed matters to lenders. Lenders set lower caps to mitigate risks arising from power contests among shareholders, formation of a new (coordinating) block, potentially resulting in activism, as well as hostile takeover threats via toehold strategies. We confirm some of these effects using two quasi-natural experiments. Caps below 50% are associated with a drop in firm value but not in the cost of debt, consistent with exacerbated firm-manager agency costs. Finally, two findings shed light on ways creditors may influence corporate governance: the largest block size increases when these minority block restrictions expire, and the likelihood of withdrawing an announced buyback increases during the life of these loans.

CEO Short-Term Incentives and the Agency Cost of Debt, accepted at Contemporary Accounting Research

Authors: Brian Akins, Jonathan Bitting, David De Angelis, Maclean Gaulin

Abstract: This paper shows that creditors’ horizon interests impact the design of CEO compensation contracts. Using a regression discontinuity design, we find that borrowing firms provide shorter incentives to their CEO following a loan covenant violation. They do so by decreasing the horizon of pay and tilting the choice of performance metrics toward accounting goals, in particular short-term ones. This effect is stronger when creditors’ interests are more immediate, such as among loans with short remaining maturity and when borrowers have lower cash reserves. This effect is weaker when the cost to shareholders is higher, such as among firms with high growth opportunities. Together these results are consistent with boards intending to facilitate renegotiation and mitigate repayment risk while balancing shareholder interests. Overall, our evidence supports a novel reason for the use of short-term incentives, namely to reduce the agency-cost of debt.

Relative Performance Evaluation in CEO Compensation: A Talent-Retention Explanation, Journal of Financial and Quantitative Analysis 55 (2020), 2099-2123. (Lead Article, Winner of the W. F. Sharpe Award for the Best Paper in the 2020 Volume of the JFQA)

Authors: David De Angelis, Yaniv Grinstein

Abstract: Relative performance evaluation (RPE) in CEO compensation can be used as a commitment device to pay CEOs for their revealed relative talent. We find evidence consistent with the talent-retention hypothesis, using two different approaches. First, we examine the RPE terms in compensation contracts and document features that are consistent with retention motives. Second, using a novel empirical specification for detecting RPE, we find RPE is less prevalent when CEO talent is less transferrable: among specialist CEOs, founder CEOs, and retirement-age CEOs, as well as in industries and states where the market for CEO talent is more restrictive.

Debt Contracting on Management, The Journal of Finance 75 (2020), 2095-2137.

Authors: Brian Akins, David De Angelis, Maclean Gaulin

Abstract: Change of management restrictions (CMRs) in loan contracts give lenders explicit ex-ante control rights over managerial retention and selection. This paper shows that lenders use CMRs to mitigate risks arising from CEO turnover, especially those related to the loss of human capital and replacement uncertainty, thereby providing evidence that human capital risk affects debt contracting. With a CMR in place, the likelihood of CEO turnover decreases by more than half, and future firm performance improves when retention frictions are important, suggesting that lenders can influence managerial turnover, even outside of default states, and help the borrower to retain talent.

The Effect of Short-Selling Threats on Incentive Contracts: Evidence from an Experiment, The Review of Financial Studies 30 (2017), 1627-1659.

Authors: David De Angelis, Gustavo Grullon, Sébastien Michenaud

Abstract: This paper examines the effects of a shock to the stock-price formation process on the design of executive incentive contracts. We find that an exogenous removal of short-selling constraints causes firms to convexify compensation payoffs by granting relatively more stock options to their managers. We also find that treated firms adopt new anti-takeover provisions. These results suggest that when firms face the threat of bear raids, they incentivize managers to take actions that mitigate the adverse effects of unrestrained short selling. Overall, this paper provides causal evidence that financial markets affect incentive contract design.

Input Hedging, Output Hedging, and Market Power, Journal of Economics and Management Strategy 26 (2017), 123-151.

Authors: David De Angelis, S. Abraham Ravid

Abstract: We argue that commodity input hedging is different from commodity output hedging. Output hedging can be detrimental to “sector play.” Furthermore, firms with market power that hedge outputs have incentives to over-produce and distort market prices. In rational markets such hedging will be expensive and we expect to see a negative relationship between hedging and market power in “output industries” but not in “input industries.” We test these predictions on a sample of S&P 500 firms from 2001 to 2005. Our results support both hypotheses. Placebo tests show that the same empirical regularities do not apply to currency hedging. Finally, our empirical framework, which differentiates between hedging inputs and hedging outputs, can also help reconcile conflicting results in prior studies.

Performance Terms in CEO Compensation Contracts, Review of Finance 19 (2015), 619-651.

Authors: David De Angelis, Yaniv Grinstein 

Abstract: In December 2006, the Securities and Exchange Commission issued new rules that require enhanced disclosure on how firms tie CEO compensation to performance. We use this new available data to study the terms of performance-based awards in CEO compensation contracts in S&P 500 firms. We observe large variations in the choice of performance measures. Our evidence is consistent with predictions from optimal contracting theories: firms rely on performance measures that are more informative of CEO actions.