Financial Economics

A large body of work has examined the impact of corporate takeovers on the financial stakeholders (shareholders and bondholders) of the merging firms. Since the late 2000s, empirical research has increasingly highlighted the crucial role played by the non-financial stakeholders (labor, suppliers, customers, government, and communities) in these transactions. It is, therefore, important to understand the interplay between corporate takeovers and the non-financial stakeholders of the firm. Financial economists have long viewed the firm as a nexus of contracts between various stakeholders connected to the firm. Corporate takeovers not only play an important role in redefining the broad boundaries of the firm but also result in major changes to corporate ownership and structure. In the process, takeovers can significantly alter the contractual relationships with non-financial stakeholders. Because the firm’s relationships with these stakeholders are governed by implicit and explicit contracts, circumstances can arise that allow acquiring firms to fully or partially abrogate these contracts and extract rents from non-financial stakeholders after deal completion. In contrast, non-financial stakeholders can also potentially benefit from a takeover if they get to share in any efficiency gains that are generated in the deal. Given this framework, the ex-ante importance of these contractual relationships can have a bearing on the efficacy of takeovers. The ability to alter contractual relationships ex post can affect the propensity of a takeover and merging firms’ shareholders and, in turn, impact non-financial stakeholders. Non-financial stakeholders will be more vested in post-takeover success if they can trust the acquiring firm to not take actions that are detrimental to them. The big picture that emerges from the surveyed literature is that non-financial stakeholder considerations affect takeover decisions and post-takeover outcomes. Moreover, takeovers also have an impact on non-financial stakeholders. The directions of all these effects, however, depend on the economic environment in which the merging firms operate.

Hedge fund activism refers to the phenomenon where hedge fund investors acquire a strict minority block of shares in a target firm and then attempt to pressure management for changes in corporate policies and governance with the aim to improve firm performance. This study provides an updated empirical analysis as well as a comprehensive survey of the academic finance research on hedge fund activism. Beginning in the early 1990s, shareholder engagement by activist hedge funds has evolved to become both an investment strategy and a remedy for poor corporate governance. Hedge funds represent a group of highly incentivized, value-driven investors who are relatively free from regulatory and structural barriers that have constrained the monitoring by other external investors. While traditional institutional investors have taken actions ex-post to preserve value or contain observed damage (such as taking the “Wall Street Walk”), hedge fund activists target underperforming firms in order to unlock value and profit from the improvement. Activist hedge funds also differ from corporate raiders that operated in the 1980s, as they tend to accumulate minority equity stakes and do not seek direct control. As a result, activists must win support from fellow shareholders via persuasion and influence, representing a hybrid internal-external role in a middle-ground form of corporate governance. Research on hedge fund activism centers on how it impacts the target company, its shareholders, other stakeholders, and the capital market as a whole. Opponents of hedge fund activism argue that activists focus narrowly on short-term financial performance, and such “short-termism” may be detrimental to the long-run value of target companies. The empirical evidence, however, supports the conclusion that interventions by activist hedge funds lead to improvements in target firms, on average, in terms of both short-term metrics, such as stock value appreciation, and long-term performance, including productivity, innovation, and governance. Overall, the evidence from the full body of the literature generally supports the view that hedge fund activism constitutes an important venue of corporate governance that is both influence-based and market-driven, placing activist hedge funds in a unique position to reduce the agency costs associated with the separation of ownership and control.

Insider trading is not widely understood. Insiders of corporations can, in fact, buy and sell shares of those corporations. But, over time, Congress, the courts and the Securities and Exchange Commission (SEC) have imposed significant limits on such trading. The limits are not always clearly marked and the principles underlying them not always consistent. The core principle is that it is illegal to trade if one is in the possession of material, nonpublic information. But the rationality of this principle has been challenged by successive generations of law and economics scholars, most notably Manne, Easterbrook, Epstein, and Bainbridge. Their “economic” analysis of this contested area of the law provides, arguably, at least a more consistent basis upon which to decide when trades by insiders should, in fact, be disallowed. A return to genuine “first principles” generated by the nature of capitalism, however, allows for more powerful insights into the phenomenon and could lead to more effective regulation.

Financially distressed and insolvent firms file for bankruptcy to either reorganize or liquidate under court supervision. Fundamentally, bankruptcy law is designed to resolve creditor coordination and holdout problems. It not only sets up rules and guidelines to allow firms to restructure their debt claims but also provides means for firms to reallocate their assets to other users. Although an efficient bankruptcy system can help mitigate bargaining frictions and maximize asset value and thus creditor recovery by avoiding inefficient liquidation or excess continuation, the bankruptcy process itself can be costly. Understanding and quantifying the costs of bankruptcy restructuring are important not only to financially distressed firms but also to the capital structure decisions and the pricing of securities of healthy firms. More broadly, efficient bankruptcy mechanisms are important for economic growth, the productivity of firms in an economy, and the resiliency of the economy to adverse shocks. From the 1990s through the 2020s, the literature has flourished, with a growing number of empirical studies investigating the efficiency of the bankruptcy system and different aspects of bankruptcy costs. Bankruptcy costs are typically classified as either direct or indirect costs. The former refers to out-of-pocket expenses associated with the retention of professionals, while the latter refers to opportunity costs incurred as a result of the adverse effect of a bankruptcy filing on business operations, human capital, and investments. Indirect costs are typically larger and more difficult to measure and quantify than direct costs, which studies show to be a small fraction of a bankrupt firm’s assets. Because of significant economic frictions such as conflicts of interest, information asymmetry, and judicial biases presented in the system, bankruptcy can be a lengthy process. Since delay allows both direct and indirect costs to accumulate, a number of studies show that shortening the bargaining process can effectively help preserve firm value. Besides delay, bankruptcy costs can be manifested in inefficient liquidation, excess continuation, fire sales, loss of human capital, and managerial turnover, which impose real costs on bankrupt firms. How to mitigate frictions and minimize costs has been the central theme of bankruptcy research from the 1990s through the 2020s, a time that has also witnessed several notable changes to the U.S. bankruptcy system, including the rise of specialized distressed investors, the strengthening of secured creditor control rights, and the increasing intensity of asset sales. These changes have important implications for the restructuring landscape.