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Abstract:
In this paper we develop a measure of liquidity, price impact, which quantifies the change in a firm's stock price associated with its observed net trading volume. For a large set of institutional trades we compare, out-of-sample, characteristic-based estimates of price impact to actual price impacts. Predictive predetermined firm characteristics, chosen to proxy for the severity of adverse selection in the equity market, the non-information based costs of making a market in the stock, and the extent of shareholder heterogeneity, include relative size, historical relative trading volume, institutional holdings, and the inverse of the stock price. We find numerous aspects of trade execution which are significantly related to the price impact forecast error in economically plausible ways: for example, the predicted price impact overestimates the actual price impact for very large trades, for trades executed in a more patient manner, and for trades where the institution pays higher commissions.

Liquidity, Transactions Costs, Price Impact

Abstract:
In this paper we (a) quantify equity liquidity using a measure of price impact, the change in a firm's stock price associated with its observed net trading volume; (b) relate the measured price impact to a set of predetermined firm characteristics that serve as proxies for the severity of adverse selection in the equity market, the non-information based costs of making a market in the stock, and the extent of shareholder heterogeneity; and (c) compare, out-of-sample, our characteristic-based estimates of price impact to actual price impacts.

Increasing the magnitude of net turnover during a 5-minute interval by 0.1% of the shares outstanding produces an average incremental price effect of 2.65% for NYSE and AMEX listed firms and 1.85% for NASDAQ firms. These averages, however, mask considerable cross-sectional variation. We present evidence that liquidity varies cross-sectionally as a function of predetermined firm characteristics as predicted by theories based on adverse selection, market making costs, and shareholder heterogeneity. We also find intra-day patterns, with the price impact being higher at the beginning and end of the trading day relative to the middle of the day.

For a large set of institutional trades we examine the relation between actual price impact and that predicted out-of-sample using the cross sectional relation between firm characteristics and price impact. We find numerous aspects of trade execution which are significantly related to the price impact forecast error in intuitive ways: for example, the predicted price impact overestimates the actual price impact for very large trades, for trades executed in a more patient manner, and for trades where the institution pays higher commissions.

Liquidity, price impact, transactions costs

Abstract:
This paper investigates the interaction between synergies and internal agency conflicts that emerges endogenously in multi-division firms. A divisional manager's entrenchment choice depends directly on the specificity of her division's assets, because the specificity governs whether entrenchment activities reduce the likelihood of her division being divested. The presence of synergies, by modifying the difference between the value of assets in their current use and in alternative uses, may alter the divisional manager's entrenchment incentive. In the "double-edged sword of mergers", synergy and internal agency effects are of opposite sign and merger gains may not be increasing in expected synergies. We characterize when divisions should optimally stand alone and when they should be part of a merged firm. We predict an absence of diversifying mergers in industries plagued by misdeployed assets, offer a novel explanation for the cross-sectional variation in postmerger valuation, and explain why mergers may be valuable ex ante while leading to successful divestitures ex post.

Abstract:
This paper investigates the interaction between synergies and internal agency conflicts that emerges endogenously in multi-division firms. We model internal agency activities as entrenchment: to avoid personal costs, a divisional manager can reduce the likelihood of her division being divested by reducing its attractiveness in an alternative use. As in Williamson (1975, 1985), we characterize asset specificity as the difference between the value of assets in their current use and in alternative uses. We show how the presence of synergies, by modifying this difference, can alter the divisional manager's incentive to entrench herself. While merging divisions is always worthwhile for sufficiently positive synergies, merging firms with mis-deployed assets might actually be detrimental for smaller synergies due to entrenchment incentives spawned by the merger. In mergers of firms with low asset specificity, negative synergies might actually motivate mergers followed by divestiture to improve entrenchment incentives. We emphasize that when the synergy and internal agency effects are of opposite sign, a circumstance we term the double-edged sword of mergers, the gains from merging may not even be increasing in the expected synergies. Finally, in mergers of firms with high asset specificity, synergies alone dictate the choice of organizational form. We characterize when divisions should optimally be stand-alone firms and when they should instead be part of a merged firm. Our model predicts an absence of diversifying mergers in industries plagued by mis-deployed assets and offers a novel explanation for the cross-sectional variation in post-merger valuation. Our model can explain why mergers may be valuable ex ante while leading to successful divestitures ex post, as observed in the 1980s.

Abstract:
One under-examined cost of trading is illiquidity. This paper measures equity illiquidity as the change in a firm's stock price associated with its observed trading volume. Increasing the magnitude of net turnover during a 5-minute interval by 0.1% of the shares outstanding produces an average incremental price effect of 2.71%.

This average, however, masks considerable cross-sectional variation. To explain this variation, we consider a set of predetermined variables that serve as proxies for (a) the severity of adverse selection in the equity market, (b) the level of the non-adverse selection costs of making a market in the stock, and (c) the extent of shareholder heterogeneity. Consistent with these theories, we present evidence that illiquidity varies cross-sectionally as a function of these predetermined variables.

We examine the change in liquidity surrounding stock splits. It is commonly argued that stock splits are done precisely to enhance the liquidity of a stock, though the existing empirical support for this claim is mixed. We find that our measure of illiquidity increases by a statistically significant amount following a split, evidence that liquidity has been compromised, rather than improved, by the split.

Abstract:
This paper examines liquidity and how it affects the behavior of mutual fund portfolio managers, who account for a significant portion of trading in many assets. We define an asset to be perfectly liquid if a portfolio manager can trade the quantity she desires when she desires at a price not worse than the uninformed expected value. A portfolio manager is limited by both what she needs to attain and the ease with which she can attain it, making her sensitive to three dimensions of liquidity: price, timing, and quantity. Deviations from perfect liquidity in any of these dimensions impose shadow costs on the portfolio manager. By focusing on the trade-off between sacrificing on price and quantity instead of the canonical price-time trade-off, the model yields several novel empirical implications. Understanding a portfolio manager's liquidity considerations provides important insights into the liquidity of assets and asset classes.

Mutual funds, Liquidity, Active and passive management

Abstract:
This paper considers whether stock price elasticity affects corporate financial decisions. Basic economic principles and the existing theoretical literature suggest that firms choosing the Dutch auction instead of the fixed price tender offer are those firms that expect to face greater stock price elasticity. While the average realized elasticities of the firms conducting the various tender offers between 1984 and 1989 fail to be significantly different, multivariate econometric analysis suggests that firms choosing the Dutch auction instead of the fixed price tender offer are indeed those firms that expect to face greater stock elasticity. The expected elasticity remains an important determinant of the tender offer choice even when allowing for firm characteristics associated with the choice of repurchase method. Firms facing greater elasticity are also characterized. The findings suggest that expected stock price elasticity may be an important determinant of corporate financial decisions that affect the supply of or demand for stock.

Abstract:
This paper provides a unique comparison of a firm?s own confidential financial forecasts and what actually transpired. In January 1990 the Walgreen Company, the national leader in the drugstore industry by sales and profit measures, generated five-year financial projections solely for internal use. They reveal how Walgreen Company planned to allocate its expanding annual cash flows: despite reinvestment of cash into ongoing expansion at a record rate and periodic dividend increases, the Company planned to hold $1.05b in cash and marketable securities in 1994. In striking contrast to Walgreen?s internal forecasts, the firm held only $108.4m in 1994 -almost $1 billion less than projected. This paper examines in detail the causes and consequences of the deviations from the company?s plans.

While many financial ratio measures indicate excellent performance over this period, other data hint that agency concerns may well be relevant even in a high growth firm like Walgreen Company. The findings in this paper suggest that whether in the future companies like these will be able to successfully defend themselves against the perils raised by Jensen (1993) depends vitally on a firm?s ability to adapt and respond as its growth opportunities change.

Abstract:
At three oâ¬"clock in the morning on September 10, 2001, Thierry Hautillac, a risk arbitrageur, learns of the final agreement between Pinault-Printemps-Redoute SA (â¬SPPRâ¬?) and LVMH Moët Hennessy Louis Vuitton SA (â¬SLVMHâ¬?). After a contest for control of Gucci lasting over two years, PPR has emerged as the winner. PPR and LVMH have agreed for PPR to buy about half of LVMHâ¬"s stock in Gucci for $94 per share, for Gucci to pay an extraordinary dividend of $7 per share, and for PPR to give a two and a half year put option with a strike price of $101.50 to the public shareholders in Gucci.

securities analysis, mergers and acquisitions, discounted cash flow, Risk and Return, Arbitrage, risk analysis, stock dividends, stockholder relations, valuation, firm valuation

Abstract:
This case examines the development and introduction of a new and controversial technology--music-file sharing--and the subsequent dilemmas, primarily concerning intellectual-property rights.

emerging industry, entrepreneurship, ethical issues, new-product introduction, technological innovation

Abstract:
This case is about determining the potential market size for a new consulting/marketing research firm. It can be used in a marketing-research course to discuss market-sizing issues and techniques. It can also be used in a course on entrepreneurship or consulting when discussing the difficulties in determining demand for a new professional service.

marketing research, marketing strategy, consulting team, marketing

Abstract:
At three oâ¬"clock in the morning on September 10, 2001, Thierry Hautillac, a risk arbitrageur, learns of the final agreement between Pinault-Printemps-Redoute SA (â¬SPPRâ¬?) and LVMH Moët Hennessy Louis Vuitton SA (â¬SLVMHâ¬?). After a contest for control of Gucci lasting over two years, PPR has emerged as the winner. PPR and LVMH have agreed for PPR to buy about half of LVMHâ¬"s stock in Gucci for $94 per share, for Gucci to pay an extraordinary dividend of $7 per share, and for PPR to give a two and a half year put option with a strike price of $101.50 to the public shareholders in Gucci.

securities analysis, mergers and acquisitions, discounted cash flow, Risk and Return, Arbitrage, risk analysis, stock dividends, stockholder relations, valuation, firm valuation

Abstract:
This paper examines liquidity and how it affects the behavior of portfolio managers, who account for a significant portion of trading in many assets. We define an asset to be perfectly liquid if a portfolio manager can trade the quantity she desires when she desires at a price not worse than the uninformed expected value. A portfolio manager is limited by both what she needs to attain and the ease with which she can attain it, making her sensitive to three dimensions of liquidity: price, timing, and quantity. Deviations from perfect liquidity in any of these dimensions impose shadow costs on the portfolio manager. By focusing on the trade-off between sacrificing price and quantity instead of the canonical price-time trade-off, the model yields several novel empirical implications. Understanding a portfolio manager's liquidity considerations provides important insights into the liquidity of many assets and asset classes.