FIN-01-049

What’s In It For Me? CEOs Whose Firms are Acquired

May 2001

Jay Hartzell, Eli Ofek and David Yermack

ABSTRACT

We develop a model for pricing risky debt and valuing credit derivatives that is easily calibrated to existing variables. Our approach is based on expanding the Das and Sundaram (2000) extension of the Heath-Jarrow-Morton (1990) term-structure model to allow for multiple ratings classes of debt. The framework has two salient features: (i) it employs a ratings transition matrix as the driver or the default process, and (ii) the entire set of rating categories is calibrated jointly, allowing arbitrage-free restrictions across rating classes, as a bond migrates amongst them. We provide an illustration of the approach by applying it to price credit-sensitive notes that have coupon payments that are linked to the rating of the underlying credit.

Classification: G12, G13

Jay Hartzell
Institution: Department of Finance, The University of Texas at Austin, Austin, TX 78712
Telephone: (512) 471-6779
Fax: (212) (512) 471-5073
Email: Jay.Hartzell@bus.utexas.edu

Eli Ofek
Institution: Stern School of Business, New York University, 44th West 4th Street, New York, NY 10012
Telephone: (212) 998-0356
Fax: (212) 995-4233
Email: eofek@stern.nyu.edu
Homepage: http://www.stern.nyu.edu/~eofek

David Yermack
Institution: Stern School of Business, New York University, 44th West 4th Street, New York, NY 10012
Telephone: (212) 998-0357
Fax: (212) 995-4220
Email: dyermack@stern.nyu.edu
Homepage: http://www.stern.nyu.edu/~dyermack

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