By Nathaniel Luce
In a continuation of the series, we asked faculty members from a variety of subject areas a simple question – what’s on your mind?
Jessica Kennedy, Assistant Professor of Management (full bio)
Professor Jessica Kennedy
I am currently fascinated by Ray Dalio’s book, Principles: Life and Work, and see the potential for it to radically shift the predominant mindset in business. Too often, by my assessment, businesspeople make decisions according to simple cost-benefit tests, which weigh foreseeable positive and negative outcomes against one another. This approach is intuitively appealing to the pragmatic, results-focused personalities attracted to business as a field, but it carries risk of excessive emphasis on short-term outcomes and can facilitate terrible sacrifices of integrity, relationships, and organizational culture. Acting by the right principles is a compelling alternative, although it receives short shrift in the context of business school curricula. Dalio and his organization, Bridgewater, demonstrate the potential of principles (many from the field of Organizational Behavior) to generate meaningful work, meaningful relationships, and highly effective organizations.
While the concept of radical transparency, the culture of Bridgewater, and the work of hedge funds more broadly have beencontroversial topics, readers do not have to accept them in order to see value in the broader approach. I think we should all ask ourselves, “What principles drive my behavior?” and frequently assess whether they need revision. Comparing our principles to those of leaders we admire is one place to start.
Mark Cohen, Justin Potter Professor of American Competitive Enterprise and Professor of Law, University Fellow, Resources for the Future (full bio)
I recently read a Wall Street Journal report that the city of Chicago is requesting permission from its city council to “use environmental, social and governance (ESG) factors to inform investment decisions.” This is not socially responsible investing for its own sake. Instead, the city Treasurer made it clear that in his view, not taking into account ESG factors in their investment decisions would be irresponsible as a fiduciary. Among the factors they plan to consider are water and energy use, human resource practices, executive compensation and shareholder rights. I follow this field closely, as I teach a class to MBA students that focuses on how ESG factors may be used to rank and/or screen companies either for a more traditional ‘socially responsible investor’ or the emerging trend of using sustainability to increase long-term returns and reduce risk.
Professor Mark Cohen
To an economist like me, I am always skeptical of claims that money can be made on such ESG analysis – after all, there are plenty of smart investors, and in an efficient market, those risks and opportunities should already be priced into the market. However, I also know that efficient markets require full information – something that is largely lacking in the ESG space. Without consistent definitions and disclosures, and research demonstrating the materiality of ESG factors, investors are unlikely to fully account for these risks. We have seen this before, when in the 1990s a well-known academic study demonstrated that firms with “entrenched boards” had systematically lower returns over a long time horizon. More recently, the same authors found no impact on returns for entrenched boards, as the market had already absorbed their lessons and discounted such firms accordingly. Over time, as ESG data become ubiquitous, I anticipate a similar outcome as ESG factors are no longer hidden from investors.
In response to recent social media campaigns following the mass school shooting in Parkland, Florida, a spate of companies, such as Chubb, MetLife, Symantec, and the parent company of Alamo, Enterprise, and National car rental companies, announced they are terminating joint marketing agreements with the National Rifle Association. Others, such as Dick’s Sporting Goods and Walmart are voluntarily restricting gun sales to customers over 21 and adding additional restrictions on gun and ammunition sales.
I’ve been following these events closely from a business strategy perspective – the interesting question is, why are these companies adopting such policies? Some might call these socially responsible positions, while others might say they are simply bowing to pressure groups that threaten boycotts or tarnishing their reputations. Dick’s CEO was quoted, “We were so disturbed and saddened by what happened, we felt we really had to do something.”On the other hand, perhaps it is a calculated cost-benefit business decision – balancing potentially reduced sales to gun purchasers or NRA enthusiasts who boycott their firms against increased sales and/or reputation from customers who are anti-NRA (or alternatively reducing the risk of protests and boycotts from anti-NRA groups)? In that case, one could argue these decisions are shareholder maximizing and socially responsible (or not depending upon your political persuasion) only coincidentally. In today’s world, however, it is not just the view of customers that might affect firm’s value – these firms likely need to consider the morale of employees (affecting productivity, turnover rates), investors (who are increasingly screening out companies engaged in gun sales), and others. In some cases, it might simply be the personal feelings of a CEO who cannot sleep at night.
Rita Gunn, Assistant Professor of Accounting (full bio)
Professor Rita Gunn
The annual reporting season for calendar year-end firms is wrapping up, and I’ve been watching the financial statements to see the first estimates of the corporate effects of the Tax Cut and Jobs Act. This year, the 10-Ks provide us with additional insight into those effects. Firms with year-ends after the Act was signed into law by President Trump on December 22, 2017 (i.e., firms with a calendar year-end) had to consider the effects, if reasonably estimable, of the Act on their financials. This is a great opportunity to see the tax expense firms were avoiding by stashing cash overseas.
Firms had to recognize the effects of the decline in tax rates and the one-time transitional tax on previously unrepatriated earnings – the effects of which have varied widely across the board. Some firms experienced a significant increase in their effective tax rates for 2017. American Express posted 2017 pre-tax earnings of $7,414 million and income tax expense of $4,678 million, giving an effective tax rate of 63.1%. Of the $2.6 billion tax expense adjustment American Express faced due to the Act, $2.0 billion is explained by the one-time transitional tax it faced on its unrepatriated earnings. In the previous nine years, American Express had an average effective tax rate of 30.2%. The 2017 effective tax rate is an anomaly explained by the Act. Absent the change, AMEX’s effective tax rate would have been 28.4%, in line with prior years.
Other firms experienced a decrease in their income tax expense. Green Dot reported 2017 pre-tax earnings of $103.5 million and income tax expense of $17.6 million, reporting a tax benefit due to the Act of $6.3 million. The differences in the effects of the Tax Cut and Jobs Act on tax expense for the year are largely dependent on the deferred taxes reported by the firm and whether the firm has significant amounts of un-repatriated earnings that are subject to the one-time transitional tax.
