Robert W. Holthausen

Robert W. Holthausen and Mark E. Zmijewski, Corporate Valuation: Theory, Evidence and Practice (: Cambridge Business Publishers, LLC, 2014)

Robert W. Holthausen and Mark E. Zmijewski (2012), Pitfalls in Levering and Unlevering Beta and Cost of Capital Estimates in DCF Valuations, Journal of Applied Corporate Finance, 24 (), pp. 60-74.

Abstract: The “levering” and “unlevering” of estimates of beta and various costs of capital are routine steps in estimating the discount rates used in DCF valuations. But as the authors demonstrate by reviewing the existing research on the subject, the levering and unlevering formulas that are most commonly used in practice are not appropriate for valuing many companies. They also illustrate the shortcomings of—and substantial valuation errors that can result from—the common practices of assuming that the betas of securities like debt and preferred stock are equal to zero and ignoring the effects of equity-linked securities such as employee stock options, warrants, and convertible debt. The authors offer alternative levering formulas that are more appropriate for valuing most companies than—and as readily implemented as—the formulas commonly used today. They also provide a relatively easy way to estimate betas for debt and preferred stock that can be used in the levering and unlevering formulas. The authors discuss how properly to account for equity-linked securities such as employee stock options, warrants, and convertible debt while demonstrating the potential importance of ignoring such equity-linked securities in the levering and unlevering formulas. Finally, the authors show why it is appropriate to standardize the treatment of contractual obligations such as leases across comparable companies in order to get consistent estimates of the unlevered cost of capital.  

Robert W. Holthausen and Mark E. Zmijewski (2012), Valuation with Market Multiples: How to Avoid Pitfalls When Identifying and Using Comparable Companies, Journal of Applied Corporate Finance, 24 (), pp. 26-38.

Abstract: An important part of the market multiple valuation process is selecting companies for comparison that are really comparable to the company being valued. The goal of assessing comparability is to align the relevant value drivers—especially risk and growth—of the comparable companies with those of the company being valued. In this paper, the authors examine the relevant value drivers for commonly used market multiples such as EBIT and EBITDA. They show that, in addition to risk and growth, analysts doing market multiple valuations need to take account of differences in variables such as cost structure, working capital, and capital expenditure requirements when assessing comparability. The authors also show that the degree to which different value drivers are important for assessing the comparability of companies differs across commonly used market multiples. In other words, some multiples are more sensitive than others to changes in certain value drivers. For example, when using a multiple like EBITDA in which certain expenditures (such as capital investments, working capital investments, and some expenses) are not deducted in the calculation of the denominator, assessing comparability based on such expenditures is more important than when using a multiple like free cash flow that deducts that expenditure in calculating the denominator. Or to cite another example, since EBIT and EBITDA make no attempt to reflect income taxes, using income tax cost structures to assess comparability is more important for enterprise value multiples based on these measures than for enterprise value multiples based on “after-tax” measures of income such as unlevered earnings or free cash flow. In addition, not all multiples control for differences in cost structure, such as cost of goods sold or SG&A. If a multiple is affected by differences in those value drivers, the comparable companies must be similar to the company being valued on that dimension. Finally, the authors show that differences in capital expenditure and working capital requirements can also have large effects on certain multiples; and as a result, such value drivers also must be considered when assessing comparability.  

Robert W. Holthausen (2009), Accounting Standards, Financial Reporting Outcomes and Enforcement, Journal of Accounting Research, Vol. 47, No. 2 (May), pp. 447-458.

Abstract: In this article the author draws parallels between the source material on the effects of law on the economic development of countries and on the effects of accounting standards on financial reporting outcomes. The main argument is that these materials are complementary in regard to what they reveal about understanding the effects of law, regulations, and accounting standards on economic and financial reporting outcomes. The material also suggests that U.S. securities laws and reporting standards have adopted a more regulatory direction over time. Attention is also given to the effects of the adoption of International Financial Reporting Standards (IFRS) globally.

Robert W. Holthausen (2003), Testing the Relative Power of Accounting Standards versus Incentives and Other Institutional Features to Influence the Outcome of Financial Reporting in an International Setting, Journal of Accounting and Economics, Vol. 36. No. 1-3 (December), pp. 271-283.

Abstract: Ball Robin and Wu (2003) investigate the relationship between accounting standards and the structure of other institutions on the attributes of the financial reporting system. They find evidence consistent with the hypothesis that beyond accounting standards, the structure of other institutions, such as incentives of preparers and auditors, enforcement mechanisms and ownership structure affects the outcome of the financial reporting system. However, interpretation of the evidence with respect to the notion of quality of the financial reporting system and the quality of accounting standards that the authors introduce is problematic.

Robert W. Holthausen and Ross Watts (2001), The Relevance of the Value Relevance Literature for Financial Accounting Standard Setting, Journal of Accounting and Economics, Vol 31. No. 1 –3 (September), pp. 3-76.

Abstract: We evaluate the literature that, for standard-setting purposes, assesses the usefulness of accounting numbers on their stock market value association. For several reasons we conclude the literature provides little insight for standard setting. First, the association criterion has no theory of accounting or standard setting supporting it. Standard setters' descriptions of their objectives and accounting practice are both inconsistent with the criterion. Important forces shaping accounting standards and practice are ignored. Second, many tests in the literature rely on valuation models that omit important factors and many studies do not provide links between valuation model inputs and accounting numbers. Finally, there are a variety of significant econometric issues in the studies.

John Core, Robert W. Holthausen, David F. Larcker (1999), Corporate governance, chief executive officer compensation, and firm performance, Journal of Financial Economics, Vol 51. No.3 (March), pp. 371-406.

Abstract: We find that measures of board and ownership structure explain a significant amount of cross-sectional variation in CEO compensation, after controlling for standard economic determinants of pay. Moreover, the signs of the coefficients on the board and ownership structure variables suggest that CEOs earn greater compensation when governance structures are less effective. We also find that the predicted component of compensation arising from these characteristics of board and ownership structure has a statistically significant negative relation with subsequent firm operating and stock return performance. Overall, our results suggest that firms with weaker governance structures have greater agency problems; that CEOs at firms with greater agency problems receive greater compensation; and that firms with greater agency problems perform worse.

Robert W. Holthausen and David F. Larcker (1997), Performance, Leverage and Ownership Structure in Reverse LBOs, Journal of Applied Corporate Finance, Vol 10. No.1 (Spring), pp. 8-20.

Abstract: Previous studies have provided convincing evidence of improvements in the performance of companies that undergo leveraged buyouts (LBOs). This article presents evidence from the authors' recent study of the performance of 90 “reverse LBOs–LBO firms that go public again in an IPO—after they return to public ownership. The aim of the study was to track the performance of reverse LBOs and to reveal any association between operating performance and changes in leverage and equity ownership. Among the principal findings of the study were the following: Despite a substantial decline in leverage ratios and equity ownership by insiders at the time of the IPOs, equity ownership of reverse LBOs remained more concentrated and leverage higher than that of public companies in the same industries. The operating performance of reverse LBOs was significantly better than that of the median firm in their industries in the year prior to and in the year of the IPO. Although there is some evidence of a deterioration in the performance of the reverse-LBO firms, they continue to outperform their industry competitors for at least four full fiscal years after the IPO. Greater reductions in the percentage equity owned by managers and other insiders at the time of the reverse LBO are associated with larger declines in operating performance. The stock price performance of reverse LBOs after going public appears more “rational” than that of other IPOs—that is, there is less initial under pricing and no sign of the negative, longer-term abnormal returns reported by recent studies of IPOs.

Robert W. Holthausen and David F. Larcker (1996), The financial performance of reverse leveraged buyouts, Journal of Financial Economics, Vol 42. No. 3 (November), pp. 293-332.

Abstract: We examine the accounting and market performance of reverse leveraged buyouts (i.e., firms making their first public offering after previously completing a leveraged buyout). On average, the accounting performance of these firms is significantly better than their industries at the time of the initial public offering (IPO) and for at least the following four years, though there is some evidence of a decline in performance. Cross-sectional variation in accounting performance subsequent to the IPO is related to changes in the equity ownership of both operating management and other insiders, and is unrelated to changes in leverage. Finally, there is no evidence of abnormal common stock performance after the reverse leveraged buyout.

Robert W. Holthausen, David F. Larcker, Richard Sloan (1995), Business unit innovation and the structure of executive compensation, Journal of Accounting and Economics, Vol 19. Nos. 2&3 (March-May), pp. 279-314.

Abstract: We examine whether the structure of compensation for the divisional CEO is related to subsequent innovative activity within the division, and whether the divisional CEO's compensation is structured as a function of the expected innovation opportunity set facing the division. Both the expected innovation opportunity set and the divisional executive's compensation contract are treated as endogenous variables by adopting a simultaneous equation approach. We find modest evidence that the proportion of total compensation tied to long-term components has a positive relation with future innovation, but no evidence that this proportion has a positive relation with the expected innovation opportunity set.