Journal of Accounting and Finance

Private Equity Valuation and IRR Algorithm

Tom Arnold, Cassandra D. Marshall, Bo Meng — Mon, 27 May 2024 00:00:00 -0400

An algorithm is developed that calculates the IRR for various private equity entities within a private equity leveraged transaction. The algorithm calculates the total anticipated value for a transaction and then produces the associated IRRs based on the exit EBITDA, the EBITDA multiple, and the available cash. The benefits of the algorithm are that multiple programming formats become available, insights emerge that are difficult to perceive using an equivalent spreadsheet pro forma analysis, and other types of analyses become possible for examining individual parameters.

Disassembling the Replacement Analysis in Capital Budgeting

Cris de la Torre, Richard Newmark, Abe Harraf — Mon, 27 May 2024 00:00:00 -0400

When teaching capital budgeting replacement projects, instructors often struggle to explain why the market value of the old machine is recognized in addition to its continued depreciation. Typical explanations about capturing the effect of replacing the old machine and its true impact on the project fall short of illuminating the rationale behind this traditional approach. We disassemble the analysis into two parts: keeping the old machine and purchasing the new machine. This separation shows students that the old machine’s sale is a benefit of purchasing the new machine and depreciating the old machine is associated with keeping the old machine.

Does Financial Derivative Hedging Reduce Firms’ Financial Constraints?

Bharat Patil — Mon, 27 May 2024 00:00:00 -0400

This study examines the relationship between the firms’ derivative risk management and its financial constraints. Firms face a wedge between their internal and external financing for their investments. I test whether this wedge reduces firms’ financial constraints when they hedge using interest rate, foreign currency, and commodity derivatives. Using an event study and a difference-in-differences framework around implementing Financial Accounting Standard (FAS) 123R, this study shows a strong causal relationship between derivative hedging and financial constraints. I find that net debt increases for the derivative hedging firms, on the other hand, cash holdings and net equity issuance decreases. When managers of non-financial corporations believe that their firm will face a liquidity shortage, they save more cash out of cash flow as a precautionary measure. Both cash flow-cash sensitivity and investment-cash flow sensitivity decrease. The analysis also shows that both the loan spread and the probability of covenant violation decrease after firms start derivative hedging. The main implication of the analysis is that risk management influences the asymmetric information between lenders and borrowers: the increase in risk management, the less the asymmetry.

Exploring Financial Performance Disparities: An In-Depth Analysis of Companies Led by Foreign-Born CEOs Versus Non-Foreign-Born CEOs Within the S&P 500

Anwar Y. Salimi, Ehsan Danesh — Mon, 27 May 2024 00:00:00 -0400

There is an increasing trend for companies to have foreign-born Chief Executive Officers. It was found that 101 companies in the S&P 500 had foreign-born CEOs. The purpose of this paper was to investigate whether companies with foreign-born CEOs exhibited better financial performance.

The study adopted a quantitative approach. We gathered two datasets: one detailing the performance of companies with CEOs born in the United States, and the other delineating the performance of companies with CEOs born outside the United States. We utilized the T-test for the difference of means on these two sets of data. This statistical method allowed us to assess the variations in financial performance metrics between the two groups over a six-year period.

The findings indicate that foreign CEOs consistently outperformed their domestic counterparts across all three studied KPI performance measures from 2018 to 2023. T-tests for the difference of means indicated that these results were statistically significant.

Investing in a Foreign Startup Company: Luckin Coffee Inc.

YingChou Lin, Rhonda Richards, Hanzhi Xu — Mon, 27 May 2024 00:00:00 -0400

Many foreign companies, particularly from emerging markets, have been listed on the US stock markets as a form of American depositary receipt or share (ADRs or ADS) in recent years. Although those US-listed foreign stocks provide a great opportunity for domestic investors to diversify their portfolios, they could also add additional risks to investors unfamiliar with those companies’ business strategies, corporate governance, investor protection, and accounting or audit practices in their home countries. In this case, we introduce Luckin Coffee Inc., a Chinese startup coffeehouse chain that went public on the Nasdaq in 2019. This case aims to guide students in evaluating a foreign startup company’s investment by examining its business strategies, operating performance, corporate governance, and auditing practices when limited company history and financial data are available. It also allows students to research companies’ filings to identify useful information for investment decisions.

Using Financial Analysis to Compare Defense Budgets

Theodore MacDonald — Mon, 27 May 2024 00:00:00 -0400

Many in the United States are unaware of, let alone see issues in the programming, use and return of the defense budget. This paper takes many commonly accepted financial analysis frameworks and applies them to defense budgets to address those topics with both qualitative and quantitative approaches. Assurances about the US spending far more than anyone else or more than any basket of countries combined on defense are not what they appear, and more spending is not the answer. This paper also proposes a defense-specific framework for measuring return on equity and value. Last, investment theories provide a discussion on what the future may bring. These analyses are all done for the United States and the People’s Republic of China using open-source data. Those in the United States and the West can use these findings from a financial lens to view the status quo differently, especially as the findings are not very favorable for the United States and its allies.

The Retirement Plan Dilemma: Who Is Best Prepared for Retirement in Today’s Environment?

Yu Zhang, Xun Li, Shari Lawrence, Andrea Chiasson — Mon, 27 May 2024 00:00:00 -0400

This study examines the factors affecting retirement preparation through employer-sponsored retirement plans using the Survey of Consumer Finances’ (SCF) 2019 data. Various socio-economic and demographic variables are analyzed for significance regarding employee participation in and contributions to employer sponsored retirement plans. Our results indicate that gender, marital status, age, race, financial literacy, risk tolerance, inheritance expectation, and income are all important factors that affect plan participation rates as well as contribution levels. For minority women, income appears to be the most crucial factor in increasing participation. The results provide some implications for policymakers about improving retirement plan policies for women and minorities. The findings may also help individuals make better retirement planning decisions, especially in the face of possible social security benefit shortages and pension plan changes. This study is of great importance, as current retirement plans place a greater responsibility on both employers and individuals for retirement planning.

Competitive Strategy and Advantages

Yunus Emre Genç — Mon, 27 May 2024 00:00:00 -0400

Companies continue their operations under rapidly changing conditions and significant uncertainties in today’s business environment. Faced with this ongoing change, businesses must constantly push themselves toward innovation and seek ways to cope with intense competition. Consequently, to sustain their existence, firms must anticipate environmental changes and strive for competitive advantage in a strong competitive environment. This situation appears to be contingent upon the ability to compete and achieve superiority. Today, achieving competitive advantage for businesses relies on making the right strategic choices. The strategy aims to control changes in a competitive economic environment by fostering innovation, progress, and alignment with the environment. Over the past 50 years, there has been increasing interest in strategy studies from a wide and diverse range of circles. Universities have opened numerous courses on strategy and related topics, with a growing number of academics and researchers conducting studies in this area. Managers and consultants are also increasingly inclined to adopt a more strategic perspective on managerial issues in the business world.

U.S.-China Trade War: Announcement Effects of Trump Tariff Cancellations on China’s Financial Firms

Xiaochuan Tong, Ran Lu-Andrews, Robert A. Kunkel — Wed, 05 Jun 2024 00:00:00 -0400

The U.S.-China trade war was escalated in 2018 when the Trump administration announced a series of tariffs on Chinese products and services. In January 2018, President Trump imposed 30 percent and 20 percent tariffs on solar panels and washing machines. President Trump continued to impose more tariffs throughout 2018 and 2019. The Trump administration finally reversed course by announcing two Trump tariff cancellations in October 2019 and December 2019; thereby signaling a de-escalation in the U.S.-China trade war. We use an event study methodology to examine the announcement effects of those two Trump tariff cancellations on China’s publicly traded financial firms, including banks, insurance companies, and securities firms. We find the announcement effects are positive for China’s financial firms which experience a tremendous 5.60% cumulative abnormal return. In dollar terms, the mean market capitalization increase was $1.36 billion, cumulatively, the twenty-four financial firms in our sample gained $32.61 billion. These results clearly show that China’s financial firms welcomed the Trump tariff cancellations.

On the Relationship Between Asset Exemptions and Outstanding Tax Repayments in Chapter 7 Bankruptcy

Donald D. Hackney, Andrew Brajcich, Emma Dugenske, Daniel L. Friesner — Sun, 23 Jun 2024 00:00:00 -0400

Under a Chapter 7 bankruptcy filing, assets are liquidated and used to repay debts, in order of a Court-established priority. If not repaid through the liquidation process, some of these debts (especially certain types of unpaid taxes) survive the bankruptcy proceedings and must still be repaid. The U.S. Bankruptcy Code allows individuals filing under Chapter 7 to exempt certain assets from the liquidation process. More generous exemptions lead to a lower value of assets liquidated and used to repay creditors. This leads to an interesting decision problem. Do filers with exempt assets and tax debts choose to retain their exempt assets and allow the tax obligations to survive the bankruptcy process? Or do they use the liquidation process to reduce outstanding tax obligations? This manuscript empirically explores this issue. We find no statistically significant evidence suggesting that households with greater exempt assets accumulate or repay a greater proportion of tax debts. However, filers who own businesses are more likely to accumulate and repay tax debts through bankruptcy.

The Financial Value of a California Post-Secondary Education

Bruce D. Niendorf, Kristine L. Beck — Sun, 23 Jun 2024 00:00:00 -0400

Earning a post-secondary degree involves paying for tuition, fees, books, supplies, and living costs. While in school, students forgo full-time job earnings, and after earning a degree they may have student loans to pay for many years. This study examines 305 California major/school combinations to identify the remaining value after paying the costs of earning a post-secondary degree - the Education Value above and beyond what the average person earns with a high school diploma. We find the best combination delivers an additional $3,713,267 in value across a lifetime, and the least value-added bachelor’s degree combination still delivers $656,100. All combinations are investments in human capital that outperform the long-term average of the U.S. stock market and may be the best investment many people ever make.

The Impact of Intangible Assets on Capital Structure in Asia

Donna Dudney, Chris Harris, Zhe Li, Thibaut Morillon — Sun, 23 Jun 2024 00:00:00 -0400

Past studies find evidence that the level of intangible assets is positively related to corporate borrowing in the United States. This paper explores the relationship between intangible assets and capital structure for Asian countries. We identify a positive relationship between intangible asset investment and debt levels throughout Asia. Unlike in the United States, this positive relationship appears to be significant for non-Goodwill and Goodwill intangible assets. Further, we find that the magnitude of this relationship is significantly greater for developed Asian countries than for developing ones. We explore explanations for this difference related to firm size, firm age, cash flow volatility, and a firm’s likelihood to default on its debt.