Three essays in corporate finance

Liu, Ping

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Description

Title

Three essays in corporate finance

Author(s)

Liu, Ping

Issue Date

2017-04-10

Director of Research (if dissertation) or Advisor (if thesis)

Almeida, Heitor

Doctoral Committee Chair(s)

• Almeida, Heitor
• Johnson, Timothy

Committee Member(s)

• Tchistyi, Alexei
• Xuan, Yuhai

Department of Study

Finance

Discipline

Finance

Degree Granting Institution

University of Illinois at Urbana-Champaign

Degree Name

Ph.D.

Degree Level

Dissertation

Keyword(s)

• Labor market outcomes
• Firm capital structure choice
• Capital structure model
• Leveraged buyout (LBO) transactions
• Executive employment contracts

Abstract

This thesis consists of three essays that examine theoretical and empirical questions in corporate finance. The first essay develops a unified general equilibrium framework examining the joint relationships between firm capital structure choice and labor market outcomes in an economy featuring two-sided labor market search frictions. I nest a canonical asset pricing and capital structure model in the spirit of Leland (1994) into a competitive searching and bargaining environment in the spirit of Diamond-Mortensen-Pissarides. I obtain highly tractable solutions for optimal capital structure choices and equilibrium labor market outcomes in the presence of wage bargaining, capital structure posting and labor market search frictions. In particular, an increase in labor market search efficiency provokes the employers to adjust their leverage upward, which relieves the labor market congestions on the workers’ side. This capital structure choice provides an important channel through which labor market search efficiency influences various aspects of labor market outcomes. For example, in the presence of optimal leverage choices, labor market search efficiency affects the wage of the new hires in a modest and non-monotonic way. Additionally, the endogenous capital structure choices by the employers are shown to influence the relationships between workers’ bargaining power and labor market outcomes. Moreover, economic volatility influences the firms’ optimal capital structure choices and labor market outcomes: most prominently, both firm leverage and the labor force participation rate climb up during turbulent economic times. The second essay examines the consequences of leveraged buyout (LBO) transactions through the lens of subsequently withdrawn transactions. Using the reason for LBO withdrawal and the unfavorable credit market movements during the period when the deal is in play to address the endogenous withdrawal decision, I create a sample of LBOs withdrawn for reasons not related to target firm fundamentals. This paper documents the following facts. First, target firms of failed LBO transactions experience upward revaluation by the stock market. Such results are stronger for target firms with more information asymmetry problems. The evidence in my paper indicates that private equity investors are able to identify undervalued firms in the stock market. Second, I document improvements in operating performance of firms after LBO transactions compared to target firms that fail to go through the LBO process. Third, private equity investors adjust the capital structure of target firms to exploit the tax benefit of interest deductions. Fourth, private equity investors also tend to reshuffle the management of target firms shortly after the LBO transactions. Overall, the evidence suggests that private equity creates value by exploiting the undervaluation of target firms, and also by improving their operational performance and financial structure. The third essay investigates how executive employment contracts influence corporate financial policies during the final year of the contract term. We find that the impending expiration of fixed-term employment contracts creates incentives for CEOs to engage in strategic window-dressing activities, including managing earnings aggressively and withholding negative firm news. At the same time, acquisitions announced during the contract renegotiation year yield higher abnormal returns than during other periods, suggesting that the upcoming contract renewal can also have disciplinary effects on potential value-destroying behaviors of CEOs. CEOs who engage in manipulation during contract renewal obtain better employment terms in their new contracts.

Graduation Semester

2017-05

Type of Resource

text

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Copyright and License Information

Copyright 2017 Ping Liu

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