Valuation when Cash Flow Forecasts are Biased

This paper focuses adaptations to the discount cash flow (DCF) method when valuing forecasted cash flows that are biased measures of expected cash flows. I imagine a simple setting where the expected cash flows equal the forecasted cash flows plus an omitted downside. When the omitted downside is temporary, the adjustment is to deflate the forecasts and to set the discount rate equal to the cost of capital. However, when the downside is permanent, the adjustment is to deflate the cash flows and to increase the discount rate so that it includes the cost of capital plus the probability of a downside.

The Valuation of Cash Flow Forecasts: An Empirical Analysis

This paper compares the market value of highly leveraged transactions (HLTs) to the discounted value of their corresponding cash flow forecasts. These forecasts are provided by management to investors and shareholders in 51 HLTs completed between 1983 and 1989. Our estimates of discounted cash flows are within 10%, on average, of the market values of the completed transactions. Our estimates perform at least as well as valuation methods using comparable companies and transactions. We also invert our analysis and estimate the risk premium implied by transaction values and forecast cash flows, and the relation of the implied risk premium to firm-level betas, industry-level betas, firm size, and firm book-to-market ratios.

Discounting Rules for Risky Assets

This paper develops a rule for calculating a discount rate to value risky projects. The rule assumes that asset risk can be measured by a single index (e.g., beta), but makes no other assumptions about specific forms of the asset pricing model. It treats all projects as combinations of two assets: Treasury bills and the market portfolio. We know how to value each of these assets under any theory of debt and taxes and under any assumption about the slope and intercept of the market line for equity securities. Our discount rate is a weighted average of the after-tax return on riskless debt and the expected return on the portfolio, where the weight on the market portfolio is beta.

Behavioral Corporate Finance: A Survey

Research in behavioral corporate finance takes two distinct approaches. The first emphasizes that investors are less than fully rational. It views managerial financing and investment decisions as rational responses to securities market mispricing. The second approach emphasizes that managers are less than fully rational. It studies the effect of nonstandard preferences and judgmental biases on managerial decisions. This survey reviews the theory, empirical challenges, and current evidence pertaining to each approach. Overall, the behavioral approaches help to explain a number of important financing and investment patterns. The survey closes with a list of open questions.

Discounting rules for risky assets

This paper develops a rule for calculating a discount rate to value risky projects. The rule assumes that the asset risk can be measured by a single index (e.g., beta), but makes no other assumptions about specific form of the asset pricing model. The rule works for all equilibrium theories of debt and taxes. The rule works because it treats all projects as combinations of two assets: Treasury bills and the market portfolio. We know how to value each of these assets under any theory of debt and taxes and under any assumption about the slope and intercept of the market line for equity securities. Given the corporate tax rate, the interest rate on Treasury bills, and the expected rate of return on the market, we can calculate the cost of capital for a feasible financing strategy. The firm finances the project with equity and debt in the proportions beta and (1- beta). Value increasing projects could be completely financed using this strategy. The weighted average cost of financing this project provides a discount rate that values the project correctly

Discounting rules for risky assets

This paper develops a new rule for calculating the discount rate to value risky projects. The rule works under any linear asset pricing model and any equilibrium theory of debt and taxes. If securities are priced by the standard capital asset pricing model, the discount rate is a weighted average of the after-tax Treasury rate and the expected rate of return on the market portfolio, where the weight on the market portfolio is the project beta. We prove that this discount rate gives the correct project value and explain why it works. We also recast the rule in certainty equivalent form, restate it for multifactor capital asset pricing or arbitrage pricing models, and derive implications for the valuation of real options

Nahm Transform and Moduli Spaces of CPn Models on the Torus

There is a Nahm transform for two-dimensional gauge fields which establishes a one-to-one correspondence between the orbit space of U(N) gauge fields with topological charge k defined on a torus and that of U(k) gauge fields with charge N on the dual torus. The main result of this paper is to show that a similar duality transform cannot exist for CPn instantons. This fact establishes a significative difference between 4-D gauge theories and CPn models. The result follows from the global analysis of the moduli space of instantons based on a complete and explicit parametrization of all self-dual solutions on the two-dimensional torus. The boundary of the space of regular instantons is shown to coincide with the space of singular instantons. This identification provides a new approach to analyzing the role of overlapping instantons in the infrared sector of CPn sigma models.Comment: 28 pages, 5 eps-figure

What Do Unions Do for Economic Performance?

Twenty years have passed since Freeman and Medoff's What Do Unions Do? This essay assesses their analysis of how unions in the U.S. private sector affect economic performance - productivity, profitability, investment, and growth. Freeman and Medoff are clearly correct that union productivity effects vary substantially across workplaces. Their conclusion that union effects are on average positive and substantial cannot be sustained, subsequent evidence suggesting an average union productivity effect near zero. Their speculation that productivity effects are larger in more competitive environments appears to hold up, although more evidence is needed. Subsequent literature continues to find unions associated with lower profitability, as noted by Freeman and Medoff. Unions are found to tax returns stemming from market power, but industry concentration is not the source of such returns. Rather, unions capture firm quasi-rents arising from long-lived tangible and intangible capital and from firm-specific advantages. Lower profits and the union tax on asset returns leads to reduced investment and, subsequently, lower employment and productivity growth. There is little evidence that unionization leads to higher rates of business failure. Given the decline in U.S. private sector unionism, I explore avenues through which individual and collective voice might be enhanced, focusing on labor law and workplace governance defaults. Substantial enhancement of voice requires change in the nonunion sector and employer as well as worker initiatives. It is unclear whether labor unions would be revitalized or further marginalized by such an evolution