Presidential Address: Corporate Finance and Reality

John R. Graham is the D. Richard Mead, Jr. Family Professor at Duke University’s Fuqua School of Business. This post is based on his Presidential Address, delivered at the 2022 meeting of the American Finance Association.

In a traditional corporate finance framework, managers maximize shareholder value, form rational expectations, optimize corporate investment intertemporally, and invest in positive net present value projects, among other things. These principles only partially align with real-world decision-making. This gap between academic research and the practice of finance is reflected in the modest statistical fit of traditional corporate finance models and the even more modest ability to predict outcomes out-of-sample or provide quantitative guidance for specific companies. In a capital structure context, for example, Graham and Leary (2011) show that standard academic models explain about 10% of within-firm variation in leverage; analysis in this paper shows explanatory power is even worse out-of-sample.

To address the research-practice gap, it is important to start by understanding in detail what real-world companies do. In a corporate finance setting, we can use surveys to directly gather this information from the expert practitioners who choose actual corporate outcomes. A clear understanding of practice helps researchers understand whether the gap between research and practice might be caused by practitioner mistakes, deficiencies in academic models, or both. And when research and academic models do align, a clear understanding of practice helps us understand the mechanisms behind the corporate outcomes we usually study.


Stakeholder Governance and Purpose of the Corporation

Martin Lipton is a founding partner of Wachtell, Lipton, Rosen & Katz, specializing in mergers and acquisitions and matters affecting corporate policy and strategy. This post is based on a Wachtell Lipton memorandum by Mr. Lipton, Steven A. RosenblumKaressa L. Cain, and Hannah Clark. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) and Will Corporations Deliver to All Stakeholders?, both by Lucian A. Bebchuk and Roberto Tallarita; For Whom Corporate Leaders Bargain by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita (discussed on the Forum here); and Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock by Leo E. Strine, Jr. (discussed on the Forum here).

BlackRock CEO Larry Fink’s highly regarded annual letter to CEOs highlights stakeholder corporate governance: “In today’s globally interconnected world, a company must create value for and be valued by its full range of stakeholders in order to deliver long-term value for its shareholders. It is through effective stakeholder capitalism that capital is efficiently allocated, companies achieve durable profitability, and value is created and sustained over the long-term.” Fink also calls attention to the importance of centering corporate purpose in this context, stating, “Putting your company’s purpose at the foundation of your relationships with your stakeholders is critical to long-term success.”

Fink’s endorsement of stakeholder governance, ESG, sustainability and long-term growth in value of the corporation reflects the now-widespread abandonment of a myopic focus on shareholder profits and the efforts of the past two decades to achieve inclusive capitalism, while preserving the benefits of the market economy. Key recent developments began with The New Paradigm of Corporate Governance, which the International Business Council of the World Economic Forum approved in 2016, and the subsequent 2020 Davos Manifesto, and include the abandonment of shareholder primacy and adoption of stakeholder governance by the Business Roundtable, the British Academy’s Future of the Corporation Project, the Enacting Purpose Initiative, the UK Financial Reporting Council and the Investor Stewardship Group and its associated Framework for U.S. Stewardship and Governance.


Weekly Roundup: January 14–20, 2022

More from:

This roundup contains a collection of the posts published on the Forum during the week of January 14–20, 2022.

Buyouts: A Primer

Board Memo 2022: Sustainability and Beyond

Analysis of Proxy Advisors’ Recommendations During the 2021 Proxy Season

Climate, Diversity and Control: 2022 ISS Proxy Voting Guidelines

M&A/PE Quarterly

SEC Proposes Major Rule Changes on Trading Plans and Corporate Buybacks

What Drives Racial Diversity on U.S. Corporate Boards?

Key Proxy Statement Disclosure Trends: Board Evaluation

Blood in the Water: The Value of Antitakeover Provisions During Market Shocks

Law Governing Attorney-Client Privilege for Emails Hosted on Noncompany Servers

Human Capital Disclosure

Letter to CEOs

Executive Compensation Considerations for 2022 Annual Meetings

A Hard Look at SPAC Projections

Remarks by Chair Gensler Before the Exchequer Club of Washington, D.C.

Gary Gensler is Chair of the U.S. Securities and Exchange Commission. This post is based on his recent remarks before the Exchequer Club of Washington, D.C. The views expressed in the post are those of Chair Gensler, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Thank you for the kind introduction. As is customary, I’d like to note that my views are my own, and I’m not speaking on behalf of the Commission or SEC staff.

I’d like to share with you all that we lost an SEC alum, Robert Birnbaum, this past December. Though I didn’t get to know Bob personally, he accomplished a lot in his remarkable life. After leaving the SEC, he went on to lead the New York Stock Exchange. [1]

While at our agency, though, Bob contributed to a seminal report called the Special Study. This report was published in 1963—exactly 30 years after Franklin Delano Roosevelt and Congress came together, in the depths of the Great Depression, to think about how our capital markets could work better for the American public.

The 1963 report described our securities laws as “a proven legislative achievement.” And yet, the staff wrote, “no regulation can be static in a dynamic society.” They continued, “unanticipated changes in the markets and the broader public participation should be accompanied by corresponding investor protection.” [2]


A Hard Look at SPAC Projections

Elizabeth Blankespoor is an Associate Professor of Accounting and the Marguerite Reimers Endowed Faculty Fellow at Washington University; Bradley Hendricks is an Assistant Professor of Accounting at the University of North Carolina at Chapel Hill; Gregory Miller is the Ernst and Young Professor of Accounting at the University of Michigan; and Douglas Stockbridge is a PhD candidate in Accounting at the University of Michigan. This post is based on their recent paper.

In recent years, the number of special purpose acquisition companies (SPACs) has risen exponentially. Relative to 2010 when SPACs raised $0.1 billion and accounted for 0.3% of IPOs, SPACs in 2020 raised $75.3 billion and accounted for 54.9% of IPOs. In 2021, SPACs more than doubled their 2020 totals, raising in excess of $160 billion.

Practitioners suggest a possible reason for this increased interest is that SPACs enable firms going public to focus more on forward-looking information. Safe harbor protections under the Private Securities Litigation Reform Act (PSLRA) extend to companies completing mergers (e.g., SPACs), unlike IPO firms. The ability to give projections has been lauded by SPACs and their target companies. In our paper, A Hard Look at SPAC Projections, which was recently accepted by Management Science, we seek to inform the current SPAC discourse by providing timely, comprehensive, and independent evidence of their use of financial projections. Our study is motivated not only by concerns that the SPAC structure provides incentives to issue optimistic projections, but also by reports in the financial press and from the SEC administration that SPAC projections appear out of line with business fundamentals. Consistent with these concerns, the U.S. House Committee on Financial Services released draft legislation in May 2021 that proposed excluding SPACs from the safe harbor for forward-looking statements.


Executive Compensation Considerations for 2022 Annual Meetings

Brian Breheny and Joseph Yaffe are partners at Skadden, Arps, Slate, Meagher & Flom LLP. This post is based on a Skadden memorandum by Mr. Breheny, Mr. Yaffe, Caroline KimAndrew Bond and Stephanie Birndorf.

Companies should consider their recent annual say-on-pay votes and general disclosure best practices when designing their compensation programs and communicating about their compensation programs to shareholders. This year, companies should understand key say-on-pay trends as they addressed the COVID-19 pandemic, including overall 2021 say-on-pay results, factors driving say-on-pay failure (i.e., those say-on-pay votes that achieved less than 50% shareholder approval) and equity plan proposal results, as well as guidance from the proxy advisory firms firms Institutional Shareholder Services (ISS) and Glass Lewis.

Overall Results of 2021 Say-on-Pay Votes

Below is a summary of the results of the 2021 say-on-pay votes from Semler Brossy’s annual survey [1] and trends over the last 10 years since the SEC adopted its say-on-pay rules. Overall, despite the uncertain climate during much of 2020, say-on-pay results at Russell 3000 companies surveyed in 2021 were generally the same or slightly below those in 2020, at least due in part related to COVID-19 related responses.


Letter to CEOs

Larry Fink is Founder, Chairman and CEO of BlackRock, Inc. This post is based on Mr. Fink’s 2022 annual letter to CEOs.

Each year I make it a priority to write to you on behalf of BlackRock’s clients, who are shareholders in your company. The majority of our clients are investing to finance retirement. Their time horizons can span decades.

The financial security we seek to help our clients achieve is not created overnight. It is a long-term endeavor, and we take a long-term approach. That is why, for the past decade, I have written to you, as CEOs and Chairs of the companies our clients are invested in. I write these letters as a fiduciary for our clients who entrust us to manage their assets—to highlight the themes that I believe are vital to driving durable long-term returns and to helping them reach their goals.

When my partners and I founded BlackRock as a startup 34 years ago, I had no experience running a company. Over the past three decades, I’ve had the opportunity to talk with countless CEOs and to learn what distinguishes truly great companies. Time and again, what they all share is that they have a clear sense of purpose; consistent values; and, crucially, they recognize the importance of engaging with and delivering for their key stakeholders. This is the foundation of stakeholder capitalism.

Stakeholder capitalism is not about politics. It is not a social or ideological agenda. It is not “woke.” It is capitalism, driven by mutually beneficial relationships between you and the employees, customers, suppliers, and communities your company relies on to prosper. This is the power of capitalism.


Human Capital Disclosure

Peter Haslag is an Assistant Professor of Finance, Berk A. Sensoy is the Hans Stoll Professor of Finance; and Joshua T. White is Assistant Professor of Finance at Vanderbilt University Owen Graduate School of Management. This post is based on their recent paper.

In the modern firm, human capital is a primary source of value. Indeed, an emerging body of research links the stock and flow of rank-and-file employees to firm value and investor returns (e.g., Agrawal, Hacamo, and Hu, 2021). Despite its importance, there is sparse academic literature on what employee information firms disclose and whether it is timely and informative given the SEC’s flexible disclosure rules.

We seek to fill this gap in our research paper, Human Capital Disclosure, using a proprietary dataset of 45 million individuals’ job histories combined with textual analysis of SEC Form 10-K annual reports. Given the recent calls by market participants and regulators for more information on human capital management, the findings of our research have important regulatory implications.

Our analyses first shed light on the supply and demand of human capital disclosure over the past two decades. We extract all paragraphs with employee-linked words from 10-Ks during 2001 to 2021 and use a natural language processing technique to identify topics of human capital information supplied by firms. After removing boilerplate, we augment our analyses to gauge demand based on potentially material dimensions of human capital identified by the Sustainability Accounting Standards Board (SASB).


Law Governing Attorney-Client Privilege for Emails Hosted on Noncompany Servers

Edward B. Micheletti is partner and Lauren N. Rosenello and Trevor T. Nielsen are associates at Skadden, Arps, Slate, Meagher & Flom LLP. This post is based on their Skadden memorandum, and is part of the Delaware law series; links to other posts in the series are available here.

Delaware Rule of Evidence 502(b) codifies the attorney-client privilege and insulates from discovery “confidential communications made for the purpose of facilitating the rendition of professional legal services to the client.” Rule 502(a)(2) further provides that a “communication is ‘confidential’ if not intended to be disclosed to third persons other than those to whom disclosure is made in furtherance of the rendition of professional legal services to the client.” But what happens when such communications are sent using email accounts that can be accessed by third parties that would normally destroy the privilege?

In 2013, the Delaware Court of Chancery adopted a framework for answering this question, and several recent opinions have applied the framework in various contexts to decide if the attorney-client privilege was maintained. This post analyzes the relevant opinions and provides practical guidance to companies aiming to protect the attorney-client privilege.

The rulings suggest that companies should consider requiring directors and employees to use a company-provided email account or some other email account not subject to potential monitoring when communicating with counsel. Where that is not possible, in-house counsel should carefully evaluate the policies of alternative email systems.


CEO’s Letter on SSGA 2022 Proxy Voting Agenda

Cyrus Taraporevala is President and CEO of State Street Global Advisors. This post is based on his 2022 letter to board members.

I hope this letter finds you and your colleagues safe and healthy. As you know, each year State Street Global Advisors engages with portfolio companies such as yours on issues of importance to investors that we will be focusing on in the coming year. Our stewardship begins with the belief that strong, capable, independent boards exercising effective oversight are the linchpin to create long-term shareholder value. We express our stewardship beliefs by laying out what we expect boards to be doing on behalf of the ultimate owners of companies. As such, we choose where and when to use our voice and our vote carefully—to address systemic risks and opportunities we foresee for the companies in which we invest as a fiduciary on behalf of our clients.

Managing Through a Historic Transition

This year, I write to you at a moment of significant transition. As we enter the third year of the pandemic, and on the heels of the COP26 conference, challenges on multiple fronts—from a global health crisis, to supply chain disruptions, to the systemic risks of climate change and gender, racial, and ethnic inequity—continue to disrupt economies worldwide, threaten corporate resiliency, and test political stability. At State Street, we envisage our portfolio companies managing these threats and opportunities by transitioning their strategies and operations—enhancing efforts to decarbonize and embracing new ways of recruiting and retaining talent—as the world moves toward a low-carbon and more diverse and inclusive future.


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