nep-acc New Economics Papers
on Accounting
Issue of 2004‒12‒20
25 papers chosen by
Bernardo Batiz-Lazo
London South Bank University

  1. Do Liquidation Values Affect Financial Contracts? Evidence from Commercial Loan Contracts and Zoning Regulation By Efraim Benmelech; Mark J. Garmaise; Tobias Moskowitz
  2. Owners, traders and providers of capital: the multiple faces of institutional investors By John Roberts; Paul Sanderson; John Hendry; Richard Barker
  3. Theft and Taxes By Mihir A. Desai; Alexander Dyck; Luigi Zingales
  4. Productivity Trends in the Gold Mining Industry in Canada By Jeremy Smith
  5. A contest with the taxman - The impact of tax rates on tax evasion and wastefully invested resources By Ralph C Bayer
  6. Market risk premium: Required, historical and expected By Fernandez, Pablo
  7. Finding out who the crooks are - Tax evasion with sequential auditing By Ralph C Bayer
  8. Where Do the Children Of Professors Attend College? By John J. Siegfried; Malcolm Getz
  9. Corporate Financing Decision When Investors Take the Path of Least Resistance By Malcolm Baker; Joshua Coval; Jeremy C. Stein
  10. "Holding Company and Bank: An Historical Comparative Perspective on Corporate Governance in Japan" By Tetsuji Okazaki
  11. Selection into and across Credit Contracts: Theory and Field Research By Christian Ahlin; Robert Townsend
  12. The effects of bank mergers on credit availability: evidence from corporate data By Emilia Bonaccorsi di Patti; Giorgio Gobbi
  13. Teacher vs. Learner Responsibility in Management Education By JS Armstrong
  14. Reply to "The value of tax shields is equal to the present value of tax shields" By Fernandez, Pablo
  15. Responsible ownership, shareholder value and the new shareholder activism By John Roberts; Paul Sanderson; John Hendry; Richard Barker
  16. The excess burden of tax evasion - An experimental detection- concealment contest By Ralph C Bayer; Matthias Sutter
  17. Tax Policy for Health Insurance By Jonathan Gruber
  18. Investor Protection and the Coasian View By Bergman, Nittai; Nicolaievsky, Daniel
  19. Emerging Market Lending: Is Moral Hazard Endogenous? By Tobias Broer
  20. Information Content of Equity Analyst Reports By Asquith, Paul; Mikhail, Michael; Au, Andrea
  21. Is there a cost channel of monetary policy transmission? An investigation into the pricing behavior of 2,000 firms By Eugenio Gaiotti; Alessandro Secchi
  22. The corporate-fund manager interface: objectives, information and valuation By John Roberts; Paul Sanderson; John Hendry; Richard Barker
  23. Global Outsourcing of Professional Services By Seshasai, Satwik; Gupta, Amar
  24. Sustainability in the boardroom: An empirical examination of Dow Jones sustainability world index leaders By Ricart, Joan E.; Rodriguez, Miguel A.; Sanchez, Pablo
  25. Investment Banking and Analyst Objectivity: Evidence from Forecasts and Recommendations of Analysts Affiliated with M&A Advisors By Kolasinski, Adam; Kothari, S.P.

  1. By: Efraim Benmelech; Mark J. Garmaise; Tobias Moskowitz
    Abstract: We examine the impact of asset liquidation value on debt contracting using a unique set of commercial property non-recourse loan contracts. We employ commercial zoning regulation to capture the flexibility of a property's permitted uses as a measure of an asset's redeployability or value in its next best use. Within a census tract, more redeployable assets receive larger loans with longer maturities and durations, lower interest rates, and fewer creditors, controlling for the current value of the property, its type, and neighborhood. These results are consistent with incomplete contracting and transaction cost theories of liquidation value and financial structure.
    JEL: G3 R0
    Date: 2004–12
  2. By: John Roberts; Paul Sanderson; John Hendry; Richard Barker
    Abstract: We draw on a series of in-depth interviews with senior fund managers and senior company executives to explore how different and often-contradictory conceptualizations of institutional investors, their role in the corporate governance process, and their interactions with corporate management, are reflected in the attitudes and perceptions of the actors concerned. We find that while conceptualizations in terms of agency and ownership dominate both academic and popular discourses, the actors conceptualize institutional investors more as financial traders and, from the management perspective, politically powerful resource providers.
    Keywords: corporate governance, institutional investors, power, resource dependence, shareholder value.
    JEL: G1 G2 G30
    Date: 2004–12
  3. By: Mihir A. Desai; Alexander Dyck; Luigi Zingales
    Abstract: This paper analyzes the interaction between corporate taxes and corporate governance. We show that the characteristics of a taxation system affect the extraction of private benefits by company insiders. A higher tax rate increases the amount of income insiders divert and thus worsens governance outcomes. In contrast, stronger tax enforcement reduces diversion and, in so doing, can raise the stock market value of a company in spite of the increase in the tax burden. We also show that the corporate governance system affects the level of tax revenues and the sensitivity of tax revenues to tax changes. When the corporate governance system is ineffective (i.e., when it is easy to divert income), an increase in the tax rate can reduce tax revenues. We test this prediction in a panel of countries. Consistent with the model, we find that corporate tax rate increases have smaller (in fact, negative) effects on revenues when corporate governance is weaker. Finally, this approach provides a novel justification for the existence of a separate corporate tax based on profits.
    JEL: G0 G1 G2 G3
    Date: 2004–12
  4. By: Jeremy Smith
    Abstract: The purpose of this report is to uncover the factors behind what has been, on average, a strong productivity performance from the Canadian gold mining industry over the past four decades. It is found that real price movements have had a substantial impact on productivity growth in the gold mining industry in Canada. The real price of gold declined steadily throughout the 1990s, squeezing the profits of mines on sites of marginal quality and thereby leading to the closure of the least productive gold mines. This had the effect of increasing the average productivity of the overall industry. The report also finds evidence that the gold mining industry in Canada was not in good health towards the end of the 1970s, despite the record gold prices of this period. Real gold mining output decreased sharply and steadily throughout the 1960s and 1970s, despite massive capital accumulation. This situation was reversed in the 1980s, with new discoveries of gold, and strong productivity growth driven by technological and organizational improvements. As these observations suggest, the productivity performance of the Canadian gold mining industry has been markedly different from decade to decade. The 1960s and 1970s witnessed productivity stagnation followed by sharp declines, but the 1980s and 1990s saw gold mining productivity growth exceeding that at the total economy level by a wide margin. Overall, the productivity gains of the past two decades have more than offset the earlier poor performance, so that the average productivity record of the gold mining industry over the past four decades remains strong.
    Keywords: Gold Mining, Gold Industry, Mining, Mining Industry, Canada, Productivity, Productivity Growth
    JEL: L72 J24 D24
    Date: 2004–10
  5. By: Ralph C Bayer (University of Adelaide)
    Abstract: We develop a moral hazard model with auditing where both the principal and the agent can influence the probability that the true state of nature is verified. This setting is widely applicable for situations where fraudulent reporting with costly state verification takes place. However, we use the framework to investigate tax evasion. We model tax evasion as a concealment-detection contest between the taxpayer and the authority. We show that higher tax rates cause more evasion and increase the resources wasted in the contest. Additionally, we …nd conditions under which a government should enforce incentive compatible auditing in order to reduce wasted resources.
    Keywords: Tax Evasion, Auditing Rules, Contest, Moral Hazard
    JEL: H26 D82 K42
    Date: 2004–12–14
  6. By: Fernandez, Pablo (IESE Business School)
    Abstract: The market risk premium is one of the most important but elusive parameters in finance. It is also called equity premium, market premium and risk premium. The term 'market risk premium' is difficult to understand because it is used to designate three different concepts: 1) Required market risk premium, which is the incremental return of a diversified portfolio (the market) over the risk-free rate (return of treasury bonds) required by an investor. It is needed for calculating the required return to equity (cost of equity). 2) Historical market risk premium, which is the historical differential return of the stock market over treasury bonds. 3) Expected market risk premium, which is the expected differential return of the stock market over treasury bonds. Many authors and finance practitioners assume that the expected market risk premium is equal to the historical market risk premium and to the required market risk premium. The CAPM assumes that the required market risk premium is equal to the expected market risk premium. However, the three concepts are different. The historical market risk premium is equal for all investors, but the required and the expected market risk premium are different for different investors. We also claim that there is no required market risk premium for the market as a whole: different investors use different required market risk premiums.
    Keywords: required market risk premium; historical market risk premium; expected market risk premium; risk premium; equity premium; market premium;
    JEL: G12 G31 M21
    Date: 2004–10–17
  7. By: Ralph C Bayer (University of Adelaide)
    Abstract: This paper investigates multi-item moral hazard with auditing contests. Although the presented model is widely applicable, we choose tax evasion as an exemplary application. We introduce a tax-evasion model where tax authority and taxpayer invest in detection and concealment. The taxpayers have multiple potential income sources and are heterogeneous with respect to their evasion scruples. The tax authority - unable to commit to an audit strategy - observes a tax declaration and chooses its auditing efforts. We show that a tax inspector prefers to audit source by source until he finds evidence for evasion to conduct a full-scale audit thereafter.
    Keywords: Moral Hazard, Auditing Rules, Contest, Tax Evasion
    JEL: H26 D82 K42
    Date: 2004–12–14
  8. By: John J. Siegfried (Department of Economics, Vanderbilt University and American Economic Association); Malcolm Getz (Department of Economics, Vanderbilt University)
    Abstract: To ask whether the best-informed consumers of higher education, the faculty, make different choices than other similarly endowed consumers, we compare the pattern of colleges chosen by 5,592 children of college and university faculty with the pattern chosen by the children of non-faculty families of similar socio-economic status. The patterns are remarkably different. The children of faculty are more likely to choose research universities and even more likely to choose selective liberal arts colleges. This evidence is consistent with the view that the level of information makes a difference in the choice of college.
    Keywords: Higher education, college choice, admission, faculty, information
    JEL: I20
    Date: 2003–02
  9. By: Malcolm Baker; Joshua Coval; Jeremy C. Stein
    Abstract: We explore the consequences for corporate financial policy that arise when investors exhibit inertial behavior. One implication of investor inertia is that, all else equal, a firm pursuing a strategy of equity-financed growth will prefer a stock-for-stock merger to greenfield investment financed with an SEO. With a merger, acquirer stock is placed in the hands of investors, who, because of inertia, do not resell it all on the open market. If there is downward-sloping demand for acquirer shares, this leads to less price pressure than an SEO, and cheaper equity financing as a result. We develop a simple model to illustrate this idea, and present supporting empirical evidence. Both individual and institutional investors tend to hang on to shares granted them in mergers, with this tendency being much stronger for individuals. Consistent with the model and with this cross-sectional pattern in inertia, acquirers targeting firms with high institutional ownership experience more negative announcement effects and greater announcement volume. Moreover, the results are strongest when the overlap in target and acquirer institutional ownership is low and when the demand curve for the acquirer's shares appears to be steep.
    JEL: G32 G34
    Date: 2004–12
  10. By: Tetsuji Okazaki (Faculty of Economics, University of Tokyo)
    Abstract: In this paper I describe the outline of the historical evolution of corporate governance in Japan, and intend to derive some insights on its future. While two alternative systems, the holding company-based system and the bank-based system were available in the 1920s, the former started to proliferate. However, the experiences during the Second World War made the corporate system choose the other fork in the road, the bank-based system. The changes in employment system and production management were complementary with the changes in corporate governance and finance. The Japanese corporate system, which was faced with a bifurcation in the 1920s and the 1930s, is now facing another bifurcation.
    Date: 2004–12
  11. By: Christian Ahlin (Department of Economics, Vanderbilt University); Robert Townsend
    Abstract: Various theories make predictions about the relative advantages of individual loans versus joint liability loans. If we imagine that lenders facing moral hazard make relative performance comparisons in determining stringency in repayment, then individual loans should vary positively with covariance of output across funded projects. Relatively new work also highlights inequality and heterogeneity in preferences, establishing that wealth of the agents relative to the bank, and wealth dispersion among potential joint liability partners, are important factors determining the likelihood of the joint liability regime. An alternative imperfect information model also addresses the question of which agents will accept a group contract and borrow and which will pursue outside options. We attempt to test these various models using relatively rich data gathered in field research in Thailand, measuring not only the presence of joint liability versus individual loans, but also measuring various of the key variables suggested by these theories. As predicted by one of the theories, the prevalence of joint liability contracts relative to individual contracts exhibits a U-shaped relationship with the wealth of the borrowing pair and increases with the wealth dispersion. (We control for wealth that can be used as collateral.) Contrary to one theory, we find no evidence joint liability borrowing becomes less likely as covariance of output increases. We do find, consistent with our modified version of the model with adverse selection, that higher correlation makes joint liability borrowing more likely relative to all outside options. We also find direct evidence consistent with adverse selection in the credit market, in that the likelihood of joint-liability borrowing increases the lower is the probability of project success. We are able to distinguish this result from an alternative moral hazard explanation. Strikingly, most of the results disappear if we do not condition the sample according to the dictates of the models.
    Keywords: Credit markets, group participation, empirical contract theory, micro-credit
    JEL: D20 D83 G21 O16
    Date: 2003–10
  12. By: Emilia Bonaccorsi di Patti (Bank of Italy, Economic Research Department); Giorgio Gobbi (Bank of Italy, Economic Research Department)
    Abstract: A large literature on the effects of bank consolidation focuses on direct efficiency gains for participating banks and market power effects. The special nature of credit markets suggests that indirect informational effects for borrowers may be generated by bank consolidation. In particular, borrowers that depend on relationship-based lending may face a reduction in credit availability because soft information gets lost if their lenders are involved in a merger. In this study we investigate the full effect of bank mergers on the availability of credit for corporate borrowers by examining a large sample of privately owned firms. We analyze the impact of bank mergers and acquisitions over time on the volume of credit and credit lines, controlling for firms characteristics. Following the literature on investment and financing constraints, we also test whether banking consolidation affects the investment-cash flow sensitivity of firms. We examine in detail the effects of bank mergers and acquisitions on firms that are small, rely on few banks, and have a high credit risk.
    Keywords: commercial banks, mergers and acquisitions, business lending, investment,financing constraints
    JEL: G21 G34
    Date: 2003–06
  13. By: JS Armstrong (The Wharton School - University of Pennsylvania)
    Abstract: A literature review suggested that behavioral changes occur more rapidly when the learner assumed responsibility. Natural learning, an approach to help learners assume responsibility, was compared with the traditional strategy in seven field experiments. It produced more than twice as many long-term behavioral changes. It was superior also for attitude change, but not for gains in knowledge.
    Keywords: teacher, teaching, lerner, responsibilities, education
    JEL: A
    Date: 2004–12–10
  14. By: Fernandez, Pablo (IESE Business School)
    Abstract: In a recent paper, Cooper and Nyborg (2004) argue that the results of Fernández (2004) are wrong because value-additivity is violated and because "Fernández paper comes from mixing the Miles-Ezzell leverage policy with the Miller-Modigliani leverage adjustment." Cooper and Nyborg's paper is thought-provoking and helps a lot in rethinking the value of tax shields. However, their conclusions are not correct because, as will be proven below, the main result of Fernández (2004) is correct for several situations. An evident error of Cooper and Nyborg (2004) is that their formulae (4), (6), (8) and (11), which they attribute to Miles and Ezzell (1980), correspond to Harris and Pringle (1985) and Ruback (2002). In addition, their formulae (3) and (5) are not general: they are valid only for perpetuities without growth. In this paper I also show that the value of tax shields depends only upon the nature of the stochastic process of the net increase of debt.
    Keywords: Value of tax shields; Present value of the net increases of debt; unlevered beta; levered beta; leverage cost;
    JEL: G12 G31 G32
    Date: 2004–11–03
  15. By: John Roberts; Paul Sanderson; John Hendry; Richard Barker
    Abstract: In this paper we use interview data to explore the Ônew shareholder activismÕ of mainstream UK institutional investors. We describe contemporary practices of corporate governance monitoring and engagement and how they vary across institutions, and explore the motivations behind them. Existing studies of shareholder activism mainly assume that it is motivated by a desire to maximise shareholder value, and we find some evidence both of this and of alternative political/moral motivations related to ideas of responsible ownership. We conclude, however, that in the current situation both these act primarily as rationalisations rather than as genuine motivators. The main driving force behind the new shareholder activism is the institutionsÕ own profit maximisation and the need to position themselves against competitor institutions in the context of political and regulatory changes that have significantly changed the non-financial expectations of their clients.
    Keywords: corporate governance, institutional investors, shareholder value, stock market
    JEL: G3 G2 G30
    Date: 2004–12
  16. By: Ralph C Bayer (University of Adelaide); Matthias Sutter (Max Planck Institute for Research into Economic Systems & University of Innsbruck)
    Abstract: We present an experimental study on the wasted resources associated with tax evasion. This waste arises from taxpayers and tax authorities investing costly effort in the concealment and detection of tax evasion. We show that these socially inefficient efforts - as well as the frequency of tax evasion - depend positively on the prevailing tax rate, but not on the fine which is imposed in the event of detected tax evasion. Tax evasion is less frequent, though, than a model with risk neutral taxpayers predicts. We find evidence that this is due to individual moral constraints rather than to risk aversion.
    Keywords: tax evasion, contest, experiment, tax rates, fines
    JEL: H26 K42 C91
    Date: 2004–12–14
  17. By: Jonathan Gruber
    Abstract: Despite a $140 billion existing tax break for employer-provided health insurance, tax policy remains the tool of choice for many policy-makers in addressing the problem of the uninsured. In this paper, I use a microsimulation model to estimate the impact of various tax interventions to cover the uninsured, relative to an expansion of public insurance designed to accomplish the same goals. I contrast the efficiency of these policies along several dimensions, most notably the dollars of public spending per dollar of insurance value provided. I find that every tax policy is much less efficient than public insurance expansions: while public insurance costs the government only between $1.17 and $1.33 per dollar of insurance value provided, tax policies cost the government between $2.36 and $12.98 per dollar of insurance value provided. I also find that targeting is crucial for efficient tax policy; policies tightly targeted to the lowest income earners have a much higher efficiency than those available higher in the income distribution. Within tax policies, tax credits aimed at employers are the most efficient, and tax credits aimed at employees are the least efficient, because the single greatest determinant of insurance coverage is being offered insurance by your employer, and because most employees who are offered already take up that insurance. Tax credits targeted at non-group coverage are fairly similar to employer tax credits at low levels, but much less efficient at higher levels.
    JEL: H2 I1
    Date: 2004–12
  18. By: Bergman, Nittai; Nicolaievsky, Daniel
    Abstract: Some legal regimes leave gaps in the protection provided by the law to firm investors. This paper considers the decision by a firm to opt out of the law and bridge those gaps using contracts. Examining the charters of a sample of Mexican firms, we find that private firms often enhance significantly the protection offered by the law to their investors, but public firms rarely do so. Motivated by these findings, we construct a model that endogenizes the degree of investor protection that firms provide, using as springboard the assumption that legal regimes differ in their ability to enforce what we call precisely filtering contracts, namely, contracts that provide protection only in those cases where expropriation can occur. Our model generates predictions about the types of contracts that would be employed and the levels of investor protection that they would provide across different legal regimes in both private and in public firms.
    Keywords: Corporate governance, investor protection, expropriation, contract design,
    Date: 2004–12–10
  19. By: Tobias Broer
    Abstract: This paper presents a simple model to analyse how moral hazard resulting from information asymmetries in financial markets affects growth in financially open developing countries. We find that if domestic entrepreneurs can gamble with foreign creditors’ money, borrowing under standard debt contracts is constrained by a No-Gambling Condition similar to that of Hellmann, Murdock, and Stiglitz (2000). However, this incentive constraint is endogenous in the development process: growth increases entrepreneurs’ own capital at risk, thus reducing gambling incentives, but it decreases profitability of capital investment, which has the opposite effect. General equilibrium under moral hazard shows a unique and stable steady state, but involves at least temporary rationing of profitable projects and possibly capital flight from developing countries.
    Date: 2004–10
  20. By: Asquith, Paul; Mikhail, Michael; Au, Andrea
    Abstract: This paper catalogs the complete text of a large sample of All-American Analyst reports and examines the market reaction to the information released. It shows that the text of the report, which provides the justifications supporting an analyst's summary opinion, provides information beyond that contained in earnings forecasts, recommendation levels, and price targets. Including the strength of the analyst's justifications, reduces, and in some models eliminates, the significance of the information available in earnings forecasts and recommendation revisions. By controlling for the simultaneous release of other information, we show that analyst reports do not merely repeat firm releases of information, but also provide both new information and/or interpretation of previously released information to the market. By examining whether the market's reaction differs by report type (i.e. upgrade, reiteration, or downgrade), we demonstrate that information in a report is most important for downgrades and that target prices and the strength of the justifications are the only elements that matter for reiterations. Finally, we find no correlation between the valuation methodology used by analysts and either the market's reaction to a report's release or the analyst's accuracy. Our adjusted R2 of nearly 26% is three or four times larger than that of other studies using only partial content from analyst reports.
    Keywords: Stock recommendations, price targets, earnings forecasts, security analysts,
    Date: 2004–11–23
  21. By: Eugenio Gaiotti (Bank of Italy); Alessandro Secchi (Bank of Italy)
    Abstract: The paper exploits a unique panel, covering some 2,000 Italian manufacturing firms and 14 years of data on individual prices and individual interest rates paid on several types of debt, to address the question of the existence of a channel of transmission of monetary policy operating through the effect of interest expenses on the marginal cost of production. It has been argued that this mechanism may explain the dimension of the real effects of monetary policy, give a rationale for the positive short-run response of prices to rate increases(the “price puzzle”) and call for a more gradual monetary policy response to shocks. We find robust evidence in favour of the presence of a cost channel of monetary policy transmission, proportional to the amount of working capital held by each firm. The channel is large enough to have non-trivial monetary policy implications.
    Keywords: monetary transmission, cost channel, working capital
    JEL: E52 E31
    Date: 2004–12–11
  22. By: John Roberts; Paul Sanderson; John Hendry; Richard Barker
    Abstract: Fund managers are the primary investment decision-makers in the stock market, and corporate executives are their primary sources of information. Meetings between the two are therefore central to stock market investment decisions but are surprisingly under-researched. There is little in the academic literature concerning their aims, content and outcomes. We report findings from interview research conducted with chief financial officers (CFOs) and investor relations managers from FTSE 100 companies and with chief investment officers (CIOs) and fund managers (FMs) from large institutional investors. Of particular interest we note that FMs place great reliance on discounted cash flow valuation models (despite informational asymmetry in favour of CFOs). This leads the former to seek to control encounters with the latter and to place great store on the clarity and consistency of corporate messages, ultimately relying on them for purposes other than estimating fundamental value. We consider some of the consequences of this usage.
    Keywords: valuation, institutional shareholders, investor relations
    JEL: G30 G34 O16
    Date: 2004–09
  23. By: Seshasai, Satwik; Gupta, Amar
    Abstract: As a growing number of firms outsource more of their professional services across geographic and temporal boundaries, one is faced with a corresponding need to examine the long-term ramifications on business and society. Some persons are convinced that cost considerations should reign as the predominant decision-making factor; others argue that outsourcing means permanent job loss; and still others believe outsourcing makes U.S. goods and services more competitive in the global marketplace. We assert that if outsourcing options need to be analyzed in detail with critical objectivity in order to derive benefits for the concerned constituencies.
    Date: 2004–12–10
  24. By: Ricart, Joan E. (IESE Business School); Rodriguez, Miguel A. (IESE Business School); Sanchez, Pablo (IESE Business School)
    Abstract: In recent years, there has been a virtual explosion of interest in corporate governance. Corporate scandals and the need to protect minority shareholders' interests, for example, are some of the reasons behind the development of corporate governance codes in numerous countries and corporations. At the same time, the concepts of "sustainable development", "corporate responsibility", and "corporate citizenship" have taken root in the business world. Although an extensive body of research treats the fields of corporate governance and sustainable development separately, less attention has been paid to the interaction between both fields. This paper attempts to bridge this gap by examining how corporate governance systems are evolving in order to integrate sustainable development thinking into them. We do so by analyzing the governance systems of the 18 corporations that are leading the market sectors considered by the Dow Jones Sustainability World Index (DJSWI). We present the results of our in depth analysis of the 18 cases and propose the Sustainable Corporate Governance Model that emerges from that analysis.
    Keywords: Corporate governance; sustainable corporate governance; sustainable enterprise; sustainable development; business in society;
    Date: 2004–11–17
  25. By: Kolasinski, Adam; Kothari, S.P.
    Abstract: Previous research finds some evidence that analysts affiliated with equity underwriters issue more optimistic earnings growth forecasts and optimistic recommendations of client stock than unaffiliated analysts. Unfortunately, these studies are unable to discriminate between three competing hypotheses for the apparent optimism. Under the bribery hypothesis, underwriting clients, with the promise of underwriting fees, coax analysts to compromise their objectivity. The execution-related conflict of hypothesis postulates that the investment banks employing analysts who are more bullish on a particular stock are better able to execute the deal, and so the banks pressure their analysts to be bullish in order to enhance their execution ability. Finally, the selection bias hypothesis postulates that analysts are objective, but because of the enhanced execution ability, banks with more optimistic analysts are more likely to get selected as underwriters. We test these hypotheses in a previously unexplored setting, namely M&A activities. Depending on whether an analyst is affiliated with the target or the acquirer and whether the analyst report is about the target or the acquirer, the hypotheses predict analyst optimism in some cases and pessimism in other. Therefore, examining the issue of analyst bias in the M&A context allows us to shed some light on alternative explanations for the impact of analyst affiliation on the properties of analyst forecasts and recommendations.
    Keywords: Corporate Finance, Investment Banking, Analysts, Conlict of Interest,
    Date: 2004–12–10

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