ABSTRACT How does demand uncertainty affect firms' investment decisions? We examine this question in the context of electricity‐producing firms' planned investments in new power plants. We measure uncertainty about future electricity demand using plausibly exogenous variation in temperature projections across scientific climate models. The results show that uncertainty increases investment in power plants with flexible production technologies, while reducing investment in less flexible technologies. Overall, the net effect of uncertainty on investment is positive when firms have access to flexible investment opportunities. These findings are consistent with models in which production flexibility shapes the investment response to demand uncertainty.

What makes independent directors perform their duty? One possible reason is that they are concerned about being punished if they do not fulfill their duties diligently. Using unique features of the Chinese capital market, we estimate the extent to which independent directors' subjective perceptions of penalty risk affect their voting on proposals. Our results suggest that they are more likely to vote against management after observing how another director in their board network received a regulatory penalty related to negligence. This effect is long lasting and stronger if the observing and penalized directors share personal characteristics and if the observing director is at a firm that is more likely to be penalized. These results provide novel evidence suggesting that the salience of penalty risk is an important factor motivating directors, which provides regulators with a powerful and cost-effective tool to improve firms' governance.

We study privatization and corporate ownership in transportation infrastructure, focusing on global airports. Privatization in general does not improve performance. However, private equity (PE) ownership has strong and persistent positive effects on efficiency, volume, and quality, with positive externalities for the local economy. We address selection using close auctions where PE and non-PE firms bid. PE funds expand physical capacity and encourage larger planes while adding low-cost carriers and international routes. They are especially effective in countries with more corruption or state-owned flag carriers. In contrast, the poorer performance of non-PE acquirers may reflect private benefits and historical state ties.

This paper reexamines the empirical evidence on the cash flow sensitivity of cash presented by Almeida et al. (2004). The original paper introduces a model in which financially constrained firms choose to save cash out of incremental cash flows but financially unconstrained do not. The authors find evidence consistent with this hypothesis on a sample of U.S. public firms between 1971 and 2000. This paper extends that analysis in a number of ways. In particular, it uses a larger sample covering the 1971 to 2019 window, considers a number of alternative definitions of financial constraints, and incorporates new methods and tests suggested by Welch (2020), Almeida et al. (2010), and Grieser and Hadlock (2019). The original empirical findings are robust to these alternative specifications.

Private debt funds are the fastest growing segment of the private capital market. We evaluate their risk-adjusted returns, applying a cash-flow based method to form a replicating portfolio that mimics their risk profiles. Using both equity and debt benchmarks to measure risk, a typical private debt fund produces an insignificant abnormal return to its investors. However, gross-of-fee abnormal returns are positive, and using only debt benchmarks also leads to positive abnormal returns as funds contain equity risks. The rates at which private debt funds lend appear to be high enough to offset the funds' fees and risks, but not high enough to exceed both their fees and investors' risk-adjusted rates of return.

This paper provides an introduction to buyouts and the academic literature about them. Buyouts are initiated by “buyout funds”, which are limited partnerships raised from mostly institutional investors. The funds earn returns for their investors by improving the operations of the firms they acquire and exiting them for a profit. Buyout funds have grown substantially and currently raise more than $400 billion annually in capital commitments. We first discuss the institutional environment that developed to foster such buyouts and to provide incentives for general partners and firm managers to earn returns for the fund’s investors. We then describe various strategies that funds use to increase the values of their portfolio companies. The paper provides up to date statistics on all aspects of the buyout industry. Finally, we present a summary of the academic literature on buyouts. This literature has paid particular attention to the extent to which buyouts earn risk-adjusted abnormal returns for their investors, as well as the sources of those returns.

How does demand uncertainty affect firms’ investment decisions? We consider this issue from the perspective of electricity-producing firms and their planned investments in new power plants. Using plausibly exogenous variations in temperature predictions across scientific climate models to measure uncertainty about future electricity demand, we find that uncertainty increases investments in plants with flexible production technologies but depresses non-flexible investments. The net effect of uncertainty on investments is positive if firms have access to flexible investment opportunities. These results are consistent with models in which the impact of uncertainty on investments depends on the investments’ production flexibility.

ABSTRACTMeasures of private equity (PE) performance based on cash flows do not account for a discount‐rate risk premium that is a component of the capital asset pricing model (CAPM) alpha. We create secondary market PE indices and find that PE discount rates vary considerably. Net asset values are too smooth because they fail to reflect variation in discount rates. Although the CAPM alpha for our index is zero, the generalized public market equivalent based on cash flows is large and positive. We obtain similar results for a set of synthetic funds that invest in small cap stocks. Ignoring variation in PE discount rates can lead to a misallocation of capital.

Infrastructure assets have undergone substantial privatization around the world in recent decades. How do these assets perform post-privatization? This paper examines global airports. Our central finding is that the type of ownership matters: Volume, efficiency, and quality improve substantially under private equity (PE) ownership—both following privatization and in subsequent transactions—but there is little evidence of improvement under non-PE private ownership. This remains the case for airports sold in auctions in which PE and non-PE firms bid, mitigating concerns about selection. PE owners invest in new physical capacity and appear to negotiate more effectively with airlines, especially in the presence of a state-owned flag carrier. Higher prices and more retail revenue increase net income, with no evidence of cost reductions or layoffs. We find that improvements are concentrated when there is a competing airport nearby, under longer-term leases, and when the local government is less corrupt. One explanation for the failure of non-PE private firms to outperform government ownership is that they tend to target more corrupt locations. Sabrina T. Howell NYU Stern School of Business KMC 9-93 44 West 4th Street New York, NY 10012 and NBER showell@stern.nyu.edu Yeejin Jang University of New South Wales School of Banking & Finance y.jang@unsw.edu.au Hyeik Kim Alberta School of Business 2-32C Business Building Edmonton, Alberta T6G 2R6 University of Alberta hyeik@ualberta.ca Michael S. Weisbach Department of Finance Fisher College of Business The Ohio State University 2100 Neil Ave. Columbus, OH 43210 and NBER weisbach.2@osu.edu

Many institutional investors depend on the returns they generate to fund their operations and liabilities. How does these investors’ demand for capital affect the management of their portfolios? We address this issue using the insurance industry because insurers are large investors for which detailed portfolio data are available, and can face financial shocks from exogenous weather-related events. We find that insurers with more financial flexibility have larger portfolio weights on riskier and more illiquid assets, and have higher realized returns. Among corporate bonds, for which we can control for regulatory treatment, we find that more financially flexible insurers have larger portfolio weights on riskier and more illiquid corporate bonds. Following losses, P&C insurers decrease allocations to riskier corporate bonds. The effect of losses on allocations is likely to be causal since it holds when instrumenting for P&C losses with weather shocks. The change in allocations following losses is larger for more financially constrained insurers and during the financial crisis, suggesting that the shift toward less risky securities is driven by concerns about financial flexibility. The results highlight the importance of financial flexibility to fund operations in institutional investors’ portfolio decisions.

What makes independent directors perform their monitoring duty? One possible reason is that they are worried about being sanctioned by regulators if they do not monitor sufficiently well. Using unique features of the Chinese financial market, we estimate the extent to which independent directors’ perceptions of the likelihood of receiving a regulatory penalty affect their monitoring. Our results suggest that they are more likely to vote against management after observing how another director in their board network received a regulatory penalty related to negligence. This effect is long-lasting and stronger if the observing and penalized directors share the same professional background or gender and if the observing director is at a firm that is more likely to be penalized. These results provide direct evidence suggesting that the possibility of receiving penalties is an important factor motivating directors. Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Product price risk is a potentially important factor for firms’ liquidity management. A natural place to evaluate the impact of this risk on liquidity management is the electricity industry, because producing firms face substantial price volatility in wholesale markets. Empirically, higher volatility of electricity prices leads to an increase in cash holdings, and this effect is robust to instrumenting for price risk using weather volatility. Cash increases more with price risk in firms using inflexible production technologies and those that cannot easily hedge electricity prices, indicating that operating flexibility and hedging are substitutes for liquidity management. This paper was accepted by Karl Diether, finance.

Inducing firms to make specialized investments through bilateral contracts can be challenging because of potential hold-up problems.Such contracting difficulties have long been argued to be an important reason for acquisitions.To evaluate the extent to which this motivation leads to mergers, we perform a textual analysis of the patents filed by the same lead inventors of the target firms before and after the mergers.We find that patents of inventors from target firms become 28.9% to 46.8% more specific to those of acquirers' inventors following completed mergers, benchmarked against patents filed by targets and a group of counterfactual acquirers.This pattern is stronger for vertical mergers that are likely to require specialized investments.There is no change in the specificity of patents for mergers that are announced but not consummated.Overall, we provide empirical evidence that contracting issues in motivating specialized investment can be a motive for acquisitions.

Can algorithms assist firms in their decisions on nominating corporate directors? Directors predicted by algorithms to perform poorly indeed do perform poorly compared to a realistic pool of candidates in out-of-sample tests. Predictably bad directors are more likely to be male, accumulate more directorships, and have larger networks than the directors the algorithm would recommend in their place. Companies with weaker governance structures are more likely to nominate them. Our results suggest that machine learning holds promise for understanding the process by which governance structures are chosen and has potential to help real-world firms improve their governance.

This paper evaluates how the relation between firms' cash holdings and their acquisition decisions changes over macroeconomic cycles using a sample of 47,615 acquisitions from 36 countries between 1997 and 2014. Higher cash holdings and stronger macroeconomic conditions each increase the likelihood that a firm will make an acquisition. However, larger cash holdings decrease the sensitivity of acquisitions to macroeconomic factors, suggesting that cash holdings lower financing constraints during times when the cost of external finance is high. Announcement day abnormal returns for acquirers follow a consistent pattern: They decrease with acquirer cash holdings and with better macroeconomic conditions.

ABSTRACTUsing a large sample of institutional investors’ investments in private equity funds raised between 1991 and 2011, we estimate the extent to which investors’ skill affects their returns. Bootstrap analyses show that the variance of actual performance is higher than would be expected by chance, suggesting that some investors consistently outperform. Extending the Bayesian approach of Korteweg and Sorensen, we estimate that a one‐standard‐deviation increase in skill leads to an increase in annual returns of between one and two percentage points. These results are stronger in the earlier part of the sample period and for venture funds.

Extreme temperatures lead to large fluctuations in electricity demand and wholesale prices of electricity, which in turn affects the optimal production process for firms to use. Using a large international sample of planned power plant projects, we measure the way that electric utilities’ investment decisions depend on the frequency of extreme temperatures. We find that they invest more in regions with more extreme temperatures. These investments are mostly in flexible gas and oil-fired power plants that can easily adjust their output, to improve their operating flexibility. Our results suggest that climate change is becoming a meaningful factor affecting firms’ behavior.

We propose a new approach to evaluating the performance of private equity investments using actual prices paid for LP shares of funds transacted in secondary markets. Our transaction-based indices exhibit substantially higher CAPM betas and lower alphas than NAV-based indices even after adjusting for staleness in NAVs. Our indices load on an additional funding liquidity factor that is uncorrelated with NAV-based index returns. In comparison, a listed PE index exhibits similar loadings on the market and funding liquidity factor as our indices, but significantly lower average returns. Our indices are useful for quarter-to-quarter benchmarking and valuing illiquid stakes in funds.