The Contributions of Stewart Myers to the Theory and Practice of Corporate Finance*

In a 40‐plus year career notable for path‐breaking work on capital structure and innovations in capital budgeting and valuation, MIT finance professor Stewart Myers has had a remarkable influence on both the theory and practice of corporate finance. In this article, two of his former students, a colleague, and a co‐author offer a brief survey of Professor Myers's accomplishments, along with an assessment of their relevance for the current financial environment. These contributions are seen as falling into three main categories:

• ? Work on “debt overhang” and the financial “pecking order” that not only provided plausible explanations for much corporate financing behavior, but can also be used to shed light on recent developments, including the reluctance of highly leveraged U.S. financial institutions to raise equity and the recent “mandatory” infusions of capital by the U.S. Treasury.
• ? Contributions to capital budgeting that complement and reinforce his research on capital structure. By providing a simple and intuitive way to capture the tax benefits of debt when capital structure changes over time, his adjusted present value (or APV) approach has not only become the standard in LBO and venture capital firms, but accomplishes in practice what theorists like M&M had urged finance practitioners to do some 30 years earlier: separate the real operating profitability of a company or project from the “second‐order” effects of financing. And his real options valuation method, by recognizing the “option‐like” character of many corporate assets, has provided not only a new way of valuing “growth” assets, but a method and, indeed, a language for bringing together the disciplines of corporate strategy and finance.
• ? Starting with work on estimating fair rates of return for public utilities, he has gone on to develop a cost‐of‐capital and capital allocation framework for insurance companies, as well as a persuasive explanation for why the rate‐setting process for railroads in the U.S. and U.K. has created problems for those industries.

     

DEBT, FOLKLORE, AND CROSS-COUNTRY DIFFERENCES IN FINANCIAL STRUCTURE

Conventional wisdom has long held that, in relationship-based economies such as Japan and Germany, corporations are able to borrow more than U.S. companies, which in turn reduces their cost of capital and gives them a competitive edge. But such folklore does not stand up to scrutiny. In Japan and Germany, large businesses do not borrow more than U.S. companies–and, in fact, judging from coverage ratios, German companies (as well as U.K. companies) seem to borrow considerably less than their international competitors.
The article also reports that, in countries where financial markets are transparent, the development of the banking sector has little additional impact on the growth of financially dependent industries. That is, although industries that require a lot of external finance grow faster in countries where the bank credit-to-GDP ratio is high, the growth rates of such industries are much more correlated with the level of accounting standards (with high standards serving as a proxy for well-developed capital markets) than with a strong banking system.     

Conservatism, growth, and return on investment

Return on Investment (ROI) is widely regarded as a key measure of firm profitability. The accounting literature has long recognized that ROI will generally not reflect economic profitability, as determined by the internal rate of return (IRR) of a firm’s investment projects. In particular, it has been noted that accounting conservatism may result in an upward bias of ROI, relative to the underlying IRR. We examine both theoretically and empirically the behavior of ROI as a function of two variables: past growth in new investments and accounting conservatism. Higher growth is shown to result in lower levels of ROI provided the accounting is conservative, while the opposite is generally true for liberal accounting policies. Conversely, more conservative accounting will increase ROI provided growth in new investments has been “moderate” over the relevant horizon, while the opposite is true if new investments grew at sufficiently high rates. Taken together, we find that conservatism and growth are “substitutes” in their joint impact on ROI.     

Offshore outsourcing of customer relationship management: conceptual model and propositions

Customer relationship management (CRM) refers to a firm’s activities for establishing and maintaining relationships with its customers. Outsourcing refers to a firm’s contracting with another firm to perform activities that were erstwhile performed within the firm. The emergence of a low cost, high speed, global communication network and information processing network has enabled an increasing number of firms based in more industrialized market economies to outsource specific elements of their CRM to offshore vendors located in countries with significantly lower labor costs. Building on scholarly insights from multiple literature streams, we present a conceptual model delineating the antecedents and consequences of CRM offshore outsourcing intensity. We also provide a literature overview of the determinants of location choice decision for offshore outsourcing, an issue that is closely linked to the offshore outsourcing decision. The growing trend toward offshore outsourcing of CRM serves to highlight a number of issues that merit careful managerial consideration. In this context, we highlight supply-side versus demand-side effects of CRM offshore outsourcing, the economics of CRM offshore outsourcing versus CRM automation, CRM offshore outsourcing versus CRM offshoring, and the evolution of hierarchical CRM organizations toward market based CRM business systems, and other issues.     

Discussion of “Performance Evaluation and Corporate Income Taxes in a Sequential Delegation Setting”

Baldenius and Ziv (2003), emphasize the role played by corporate taxes in the context of a multi-period setting that features project selection and incentive issues. In this discussion, I employ a parametric example to illustrate the intuition behind their findings, as well as to delineate their incremental contribution and to speculate on the robustness of the results. I also highlight the differences between the residual income framework employed in their paper and traditional models of agency.     

Fear Appeals in Print Advertising: An Analysis of Arousal and Ad Response

Abstract

This paper examines the tenability of a two-dimensional (tension and energy) formulation of fear arousal effects in the context of print advertising. Intuitively, stimulation of fear parallels a two-part continuum of increasing tension. This exploratory study stems from the theoretical premise that increasing tension generates energy up to a certain point, and beyond that “threshold,” increasing tension arouses anxiety which begins to deplete energy. The study examines the effects of two print ad stimuli on the multidimensional structure of arousal, resulting attitude toward the ad and behavioral intention. The results indicate that print ad induced arousal effects fell short of the “threshold” point. However, a comparison between fear appeal treatment groups reveals that the stronger fear appeal resulted in arousal effects showing “progress” toward the threshold point. Thus, these results lend credibility to the idea of a “threshold” separating a two-part continuum of increasing tension. General implications of these results are discussed, and tentative suggestions in regard to the design and use of fear appeals using both print and video stimuli are furnished.     

Singapore's Bilateral Merchandise Trade Linkages with Japan and the United States: Trends,Patterns and Comparisons*

This paper analyses and compares trends and patterns in Singapore's bilateral merchandise trade relations with its two largest trading partners, Japan and the United States (US). Over the period 1976–1992, the analyses reveal that both Japan and the US have been relatively over-represented as Singapore's trade partners. However, whereas Singapore's trade with Japan has become more intensive in recent years, that with the US has become less so. Computations reveal that the degree as well as level of Singapore's intra-industry trade with the US has exceeded that with Japan. Nevertheless, while the degree of Singapore's intra-industry trade with Japan has been consistently increasing since 1981, bilateral trade with the US since 1987 has become increasingly inter- rather than intra-industry. The important nexus between trade and FDI is also highlighted.