Capital Market Pressures Research Articles

Capital Market Pressure, Disclosure Frequency-Induced Earnings/Cash Flow Conflict, and Managerial Myopia (Retracted)

We examine the effects of increased capital market pressure and disclosure frequency-induced earnings/cash flow conflict on myopic behavior. In our experiments, experienced financial managers choose between projects where a conflict exists between near-term earnings and total cash flow. Managers more often choose projects that they believe will maximize short-term earnings (and price) as opposed to total cash flows in response to increased capital market pressure resulting from a pending stock issuance, holding constant agency frictions and other stock market pressures. When faced with increased capital market pressure, changes in disclosure frequency cause managers to behave more or less myopically depending on the impact of the change on the pattern of earnings and the resulting earnings/cash flow conflict. Our study provides insights into managers' beliefs about stock market pressures, mandatory reporting, and the availability of alternative communications channels, and contributes to literature on managerial myopia and earnings management, as well as current debates over disclosure frequency.

An analysis of earnings management by European private firms

This paper addresses the questions of whether private firms in eight European countries engage in earnings management, and if so, whether tax incentives affect such practices. To measure earnings management, we analyze the earnings distributions of private firms and compare these distributions with those of public firms in the same countries. The empirical evidence suggests that in absence of capital market pressures, firms still have incentives to manage earnings, as we find that private firms avoid reporting small losses. We further find that private firms in some countries where tax regulation strongly influences financial accounting do not avoid reporting small losses. We attribute this finding to tax incentives reducing firms’ benefits of (upward) earnings management. Finally, our results suggest that some types of earnings management are due to capital market pressures and are specific to public firms since we do not find evidence that private firms avoid earnings decreases.

An Analysis of Earnings Management by European Private Firms

This paper investigates the prevalence of earnings management by private firms in eight European countries with different institutional backgrounds. We explore the distributional properties of earnings levels and earnings changes to compare loss avoidance and earnings decrease avoidance across countries. The empirical evidence suggests that in absence of capital market pressures, firms still have incentives to manage earnings. We find that private firms avoid reporting small losses, and that private firms in countries with high financial and tax accounting alignment manage earnings to reduce taxes. Our results also suggest that some types of earnings management are due to capital market pressures and specific to public firms, since we do not find evidence that private firms avoid earnings decreases.

The Importance of Reporting Incentives: Earnings Management in European Private and Public Firms

This paper examines how capital market pressures and institutional factors shape firms' incentives to report earnings that reflect economic performance. To isolate the effects of reporting incentives, we exploit the fact that, within the European Union, privately held corporations face the same accounting standards as publicly traded companies because accounting regulation is based on legal form. We focus on the level of earnings management as one dimension of accounting quality that is particularly responsive to firms' reporting incentives. We document that private firms exhibit higher levels of earnings management and that strong legal systems are associated with less earnings management in private and public firms. We also provide evidence that private and public firms respond differentially to institutional factors, such as book-tax alignment, outside investor protection, and capital market structure. Moreover, legal institutions and capital market forces often appear to reinforce each other.

Corporate Governance and Employees in Germany: Changing Linkages, Complementarities, and Tensions

This article examines institutional linkages between corporate governance and labour management in Germany. German corporate governance was characterised by the importance of banks, ownership concentration, long-term investment, and stable corporate networks. This system displayed important complementarities with stable long-term employment, investment in worker training, flexible quality production, low variability and dispersion in pay, and cooperative industrial relations during the post-war period. Since the mid-1990s, corporate governance has changed dramatically - a decline in the role of banks, the unwinding of corporate networks, the rise of foreign and institutional investors, en emerging market for corporate control, and changing careers and compensation of top managers. The paper investigates the resulting introduction of shareholder-value management practices and their impact on employees in large German companies. The findings show that these changes are related to the shrinking of stable core employment and the growth of variable pay. However, such tensions with shareholder value management have not undermined employee codetermination and collective bargaining institutions. Both play an important mediating role between capital market pressures and employment outcomes. The implications for the German model of corporate governance are discussed.

The Importance of Reporting Incentives: Earnings Management in European Private and Public Firms

This paper examines how capital market pressures and institutional factors shape firms' incentives to report earnings that reflect economic performance. To isolate the effects of reporting incentives, we exploit the fact that, within the European Union, privately held corporations face the same accounting standards as publicly traded companies because accounting regulation is based on legal form. We focus on the level of earnings management as one dimension of accounting quality that is particularly responsive to firms' reporting incentives. We document that private firms exhibit higher levels of earnings management and that strong legal systems are associated with less earnings management in private and public firms. We also provide evidence that private and public firms respond differentially to institutional factors, such as book-tax alignment, outside investor protection and capital market structure. Moreover, legal institutions and capital market forces often appear to reinforce each other.

Predicting Earnings Management: The Case of Earnings Restatements

This paper examines the usefulness of accounting information in predicting earnings management. We investigate a comprehensive sample of firms from 1971-2000 that restated annual earnings. We find that firms restating earnings have high market expectations for future earnings growth and have higher levels of outstanding debt. We also find that a primary motivation for the earnings manipulation is the desire to attract external financing at a lower cost. Furthermore, our evidence suggests that restating firms have been attempting to maintain a string of consecutive positive earnings growth and consecutive positive quarterly earnings surprises. Together, our evidence is consistent with capital market pressures acting as a motivating factor for companies to adopt aggressive accounting policies. Finally, we document that information in accruals, specifically, operating and investing accruals, are key indicators of the earnings manipulation that lead to the restatement. Collectively, the evidence suggests that market participants can gain substantial value from a careful consideration of information in financial statements.

The Arrival of Shareholder Value in the European Auto Industry a Case Study Comparison of Four Car Makers

The paper deals with changes in the corporate governance systems of major European flagship companies in the car industry – Fiat, PSA, Renault and Volkswagen. While all four companies are protected from immediate capital market pressures either by family or state ownership, they have clearly opened up to shareholder value principles in recent years. The central questions of the paper are: to what extent traditional characteristics of corporate governance have converged under the pressure of capital markets; the different approaches companies take to governance and how this affects their performance. To answer these questions, the paper discusses the recent developments of a shareholder value policy and the corresponding changes of targets and controls, as well as of incentive systems, in these companies. The paper also assesses what these companies use the capital markets for: do companies need the stock market to finance their operations? Or does the importance of the stock market rather lie in its function as a market for corporate control? What comes out clearly from the analysis is that none of the companies used the stock market for their operational activities, including major investments. The most important influence of the stock markets lies in the potential for hostile takeover. Even though all four companies investigated are to some degree protected by family or state ownership, they feel the need to raise a defence against this potential danger. As to performance indicators, the analysis shows that a shareholder value policy does not necessarily lead to better economic performance. On the contrary, the analysis shows that the more engaged companies are towards shareholder value policy, the less well they performed in terms of profit margins and returns on capital.

New Agendas for Auto Research: Financialisation, Motoring and Present Day Capitalism

This review article introduces a journal special issue on new agendas for auto research. It argues that old 1990s research agenda about factories, process and product has been rendered obsolete by developments in present day capitalism. The new research agendas for the 2000s are about financial issues: first, the nature and extent of capital market pressure on the assemblers for higher profits; second, multiple conflicts and cost passing behaviour involving government and consumers as much as corporate players. This review article surveys recent literature on these themes and explains how the articles in this special issue make distinctive contributions to our empirical understanding and conceptualisation of these developments.

Voluntary Disclosure by State‐owned Enterprises Listed on the Stock Exchange of Hong Kong

This study examines the impact of international capital market pressures on the voluntary disclosure of three types of information (strategic, financial, and non‐financial) in the annual reports of former wholly state‐owned People’s Republic of China (PRC) enterprises, listed on the Stock Exchange of Hong Kong (SEHK). Consistent with a cost­benefit framework, we find that PRC H‐Share firms disclose significantly more strategic and financial information than other SEHK firms. Additional analysis of disclosures in their home listings on the PRC exchanges, however, suggests an alternative explanation. The fact that these firms have been selected for “showcasing” in international capital markets may also play a role in our findings. While H‐Share firm disclosures in the PRC also appear sensitive to management’s assessment of the associated costs, the magnitude of differences across listing locations suggests that disclosure practices on the SEHK may also reflect the effects of state‐encouraged disclosure policies. Our findings contribute to the understanding of disclosure behavior among former wholly state‐owned enterprises and to the emerging literature on the efficacy of the privatization process.

Regulatory Competition and the Evolution of Closely Held Business Forms in Europe

Close corporations have become the preferred vehicle for small and medium-sized enterprises in Europe. While scholars have debated the advantages of close corporation statutes for more than a decade, some who favor reform suggest that lawmakers devise new business organization statutes that are more varied, less complex, and can potentially enhance efficient outcomes. Indeed, since in most jurisdictions close corporations are a mirror image of their publicly held counterpart, small and medium-sized enterprises are burdened by a number of regulatory requirements, which cause them to incur substantial costs in carrying out their normal business activities. In particular, the imposition of many of the European Community's harmonized corporate law provisions on smaller firms is viewed as disproportionate and over-regulatory, and tends to impede the development of an efficient supply of legal rules. Reform-minded scholars, supported by product and capital market pressures to supply the most competitive business statute for small and medium-sized enterprises, point to the success of the US Limited Liability Company (LLC), a flexible business form that combines the best features of partnership and corporate law. The aim of this article is to consider the possibility of making new business forms available in the European Union based on the US LLC, which arguably leads to an increase in the number of start-up firms while also satisfying the needs of range of closely held firms. It is submitted that the combination of organized interest group pressure and the significant switching costs are an important barrier to the creation of new business statutes. Hence an important question is whether the introduction of competition pressures could limit the difficulties encountered in creating a flexible business form with few mandatory rules. Indeed, the combination of the European Court of Justice's recent judgment in Centros and the legislative inertia in the European Community's corporation law harmonization program has stimulated considerable interest in the role of competition among jurisdictions. This article suggests that, despite a significant pent-up demand across Europe for businesses to incorporate in low-regulation jurisdictions, it is difficult to predict with certitude the circumstances that would lead to the development of regulatory competition in the LLC context. However, we argue that a model statute could be a contributing factor in the introduction of an LLC-type business form within the European Union.

Financialisation and the coupon pool

By the late 1990s, shareholder value was the explicit, new priority for the old corporations in the US and UK where the stock market had gained an unprecedented influence on the behaviour of giant corporations. The business press obsessively discussed which managements were, and were not, delivering value and all the major US consulting firms had moved into selling value metrics and implementation packages promising to solve this question. Over this decade, share prices rose unsteadily in a long bull market which ended in the tech stock crash of Spring 2000 which, one year later, had turned into a bear market in a slowing US economy. All this poses new questions about what’s at stake in the capital market's pressure on corporations for increased returns; and what's behind higher share prices and their collapse? The intellectual responses widened the debate but has led to increasing conceptual confusion: the journalistic term "shareholder value" has passed into academic usage; while neologisms such as financialisation are used differently by various authors. Against this background, our paper aims to discuss the existing terms and main definitions and to argue for a redefinition of the problem around a new generic concept of coupon pool capitalism. After this, the paper presents a brief empirical analysis of the dynamics of the coupon pool in the USA and UK. This analysis represents part of our answer to the question of what's new and different about the current forms of capitalism.

Boards of Directors' short-term perceptions and evidence of managerial short-termism in the UK

Some researchers argue that capital market pressures are increasingly directed towards short-term performance evaluation of managers and their operations; others deny this. However, the crucial issue, it is argued in this paper, is managers' perceptions of this: for if they perceive capital markets as short-termist, they will behave in a short-term manner. This paper begins by offering a theoretical model for studying the effects of management perceptions on short-term behaviour of firms. Five hypotheses were developed and tested. The hypotheses related to the degree of short-term performance pressures as perceived by the boards of directors and the degree of emphasis their companies put on short-term financial control measures in determining R&D budgets. All the five hypotheses were supported, and the results were explained through the ‘model’. These results support the view that perceived short-term pressures influence firms' decisions to retain or adopt ‘Financial Control’ management styles in their R&D budget determination. They also show that perceptions are a valuable theoretical construct in exploring short-term behaviour in firms' Research and Development and related innovation activities.

‘More a national asset than an investor's paradise’: financial management and the British Motor Corporation, 1952–68

This paper undertakes a comparative analysis of financial management in the British motor industry in the 1950s and 1960s. We question whether US ownership automatically implied greater financial control and immunity from capital market pressures and discuss whether the problems BMC/BMH (British Motor Corporation/British Motor Holdings) experienced were symptomatic of the absence of financial imperatives among British management at this time. Finally we widen the agenda to place our findings on financial management into a wider literature dealing more generally with the problems of managerial control and corporate governance within the motor vehicle industry in the 1950s and 1960s.

NO EXIT: OVERCAPACITY AND PLANT CLOSURE IN THE US TIRE INDUSTRY.

This paper analyzes incumbent tire companies' reaction to radial tires. It documents that tire firms delayed closing obsolete plants, thereby destroying $1.4 billion of value. Multivariate analysis of the predictors of plant closure suggest that expected plant profitability, capital market pressure, and recontracting costs influenced the timing of plant closure.

The impact of managers' short-term perceptions on technology management and r&d in uk companies

Short-term financial pressures on the manufacturing sector in the UK have had a negative impact on the management of technology as can be seen by the reduction in R&D spending, patending rates and in market shares of this sector. It has been argued that capital market pressures are increasingly directed towards short-term performance evaluation of managers and their operations. This paper begins by offering a theoretical framework for studying the effects of management perceptions on short-term behaviour of firms. Drawing on the theoretical framework, hypotheses are developed on the possible relationships between short-term perceptions of finance directors and their companies' management of technology and in particular R&D. The overall findings of the survey support the view that perceived short-term pressures are cousing firms to retain or adopt ‘financial control’ management styles. They also show that these short-term financial pressures are the principal strategic element of UK companies and as such t...

An empirical study of research and development top managers' perceptions of short-term pressures from capital markets in the United Kingdom

It is often argued that capital market pressures are increasingly directed towards short-term performance evaluation of managers and their operations. Whether these external capital market pressures actually exist or not, short-term pressures on firms are influenced by managers' own perceptions of these external pressures. If managers perceive the existence of these external pressures it is likely that this will lead to short-term behaviour on their part. The purpose of this paper is therefore to examine (a) research and development (R&D) managers' perceptions of short-term behaviour in capital markets in the UK, and (b) patterns of behaviour relating to R&D which may be influenced by these perceptions. The findings of this study indicate that approximately half of the UK research and development managers perceive capital markets as responsible for putting inappropriate short-term pressures on their companies' management. However, an even larger proportion report short-termist behaviour relating to R&D and its evaluation, suggesting that some at least of the problem of ‘short-termism’ is internally generated.

International Capital Market Pressures and Voluntary Annual Report Disclosures by U.S. and U.K. Multinationals

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Recent evidence on the relationship between money growth and budget deficits

This paper examines the recent evidence on the extent to which the Federal Reserve accommodates Treasury financing activities by effectively monetizing newly issued debt. Various lag and lead formulations are used to determine the timing of FED actions. Results suggest that validation has been significant over the 1960–1980 period, and that, especially in recent periods, the FOMC has responded to capital market pressure which appears in advance of impending debt issues. Finally, we find in the limited number of observations available since October 1979 that there has been no substantive “break” in this accommodative policy despite the Fed's alleged emphasis on monetary aggregates.