Gormley, Todd A.- University of Pennsylvania - The Wharton School and David A. Matsa - Northwestern University - Kellogg School of Management; National Bureau of Economic Research

“Playing It Safe? Managerial Preferences, Risk, and Agency Conflicts” Authors: Gormley, Todd A.- University of Pennsylvania - The Wharton School and David A. Matsa - Northwestern University - Kellogg School of Management; National Bureau of Economic Research

Abstract:
This paper examines managers’ incentive to “play it safe” by taking value-destroying actions that reduce their firms’ risk of distress. We find that, after managers are insulated by the adoption of an antitakeover law, firms take on less risk. Stock volatility decreases, cash holdings increase, and diversifying acquisitions increase by more than a quarter relative to unaffected firms that operate in the same state and industry. The acquisitions target “cash cows,” have negative announcement returns, and are concentrated among firms with greater risk of distress, higher inside ownership, and younger CEOs. Our findings suggest that shareholders face governance challenges beyond motivating managerial effort, and that instruments typically used to motivate managers, like greater financial leverage and larger ownership stakes, exacerbate these challenges.