An empirical assessment of the premium associated with meeting or beating both time-series earnings expectations and analysts’ forecasts

Recent research provides evidence of a market premium accruing to firms that meet or beat analysts’ forecasts. We find similar results for our sample of firms. However, we also find a market premium for firms that meet or beat time-series forecasts, and that the highest market premium accrued to firms that meet or beat both analysts’ and time-series forecasts. These findings are supported by assessments of future financial performance over the next two subsequent years. Our findings are consistent with the notion that when time-series benchmark is used in conjunction with analysts’ forecasts, investors obtain a more reliable (i.e., less noisy) signal regarding whether firms have actually met or beaten market expectations.

Who hedges more when leverage is endogenous? A testable theory of corporate risk management under general distributional conditions

This paper develops a theory of a firm’s hedging decision with endogenous leverage. In contrast to previous models in the literature, our framework is based on less restrictive distributional assumptions and allows a closed-form analytical solution to the joint optimization problem. Using anecdotal evidence of greater benefits of risk management for firms selling “credence goods” or products that involve long-term relationships, we prove that those optimally leveraged firms, which face more convex indirect bankruptcy cost functions, will choose higher hedge ratios. Moreover, we suggest a new approach to test this relationship empirically.

The effect of controlling shareholders’ excess board seats control on financial restatements: evidence from Taiwan

This study examines the relation between controlling shareholders’ excess board seats control and financial restatements. An analysis of a sample comprising 106 Taiwanese listed firms (53 restating firms vs. 53 non-restating control firms) shows that financial restatements are more likely to occur when there is a greater divergence between controlling shareholders’ board seats control rights and ownership rights. We also find that the excess board seats control of controlling shareholders is positively associated with the materiality and pervasiveness of financial restatements. Overall, these results suggest that the entrenchment incentive from controlling shareholders’ excess control motivates firms to adopt aggressive accounting policies.

Change in value relevance of quarterly foreign sales data of U.S. multinational corporations after adopting SFAS 131

This paper investigates the change in value relevance of quarterly foreign sales data of U.S.-based multinational enterprises after adopting Statement of Financial Accounting Standards No. 131 (SFAS 131). First, I examine whether the interim foreign sales data of all sample firms are valued at a higher rate by equity investors after the firms adopt SFAS 131. My empirical findings indicate that for all sample firms the value relevance of quarterly foreign sales data increases after the firms adopt SFAS 131. I then examine whether the valuation consequence of firms that change their geographic segment definition after they adopt SFAS 131—segment change firms—changes after those firms adopt SFAS 131. Based on the empirical results, I conclude that quarterly foreign sales data of segment change firms are priced at a relatively higher rate after SFAS 131 is adopted.

Credit Risk and the Term Structure of Lease Rates: A Reduced Form Approach

Previous research either assumes default free leases or leases subject to default risk using a structural approach. However, structural credit risk models suffer from a common criticism that the firm’s asset value process is unobservable. We develop a reduced form credit risk model for leases that avoids making assumptions regarding unobservable asset valuation processes. Furthermore, we assume a correlated market and credit risk that provides us with a simple analytic formula for valuing defaultable lease contracts. Numerical analysis reveals that tenant credit risk can have a substantial impact on the term structure of leases. Finally, we use the model to demonstrate the implied lease term structure for a set of retail and financial firms in the Fall of 2000.

Patents and the performance of technology firms: Evidence from initial public offerings in Germany

The objective of this study is to analyze the relationship between innovation and performance for German firms that went public at the “Neuer Markt” during the period from 1997 to 2002. In the empirical analysis we investigate in particular whether initial public offerings (IPOs) with more or higher quality patents outperformed IPOs with lower quality or no patented technology. For this we measure the impact of patents on underpricing and long-run performance and explain the magnitude of these valuation effects with the Fama–French value and growth factors, with patent-specific variables such as the number of IPC-classes, family size, the number of backward and forward citations, as well as with industry variables. The empirical evidence suggests that patents are a reliable indicator for the success and the short- and long-run performance of start-up technology firms that went public and that the valuation effects are more pronounced for higher quality patents.

Heterogeneous multiple bank financing: does it reduce inefficient credit-renegotiation incidences?

Small and medium-sized firms often obtain capital via a mixture of relationship and arm’s-length bank lending. We show that such heterogeneous multiple bank financing leads to a lower probability of inefficient credit foreclosure than both monopoly relationship lending and homogeneous multiple bank financing. Yet, in order to reduce hold-up and coordination-failure risk, the relationship bank’s fraction of total firm debt must not become too large. For firms with intermediate expected profits, the probability of inefficient credit-renegotiation is shown to decrease along with the relationship bank’s information precision. For firms with extremely high or extremely low expected returns, however, it increases.

Voluntary disclosure of accruals in earnings press releases and the pricing of accruals

This study investigates firms’ decisions to disclose accruals information in earnings press releases versus to provide it only in 10-Q filings and the impact of this disclosure on the pricing of accruals. I find that firms disclose accruals in their press releases when earnings alone are a weak indication of cash flow performance and that following these disclosures the accruals information is fully impounded into stock prices. The evidence suggests that when investor demand for accruals is likely to exist and firms disclose the information in earnings press releases, the mispricing typically associated with accruals is mitigated.

The contextual nature of the predictive power of statistically-based quarterly earnings models

We present new empirical evidence on the contextual nature of the predictive power of five statistically-based quarterly earnings expectation models evaluated on a holdout period spanning the twelve quarters from 2000–2002. In marked contrast to extant time-series work, the random walk with drift (RWD) model provides significantly more accurate pooled, one-step-ahead quarterly earnings predictions for a sample of high-technology firms (n = 202). In similar predictive comparisons, the Griffin-Watts (GW) ARIMA model provides significantly more accurate quarterly earnings predictions for a sample of regulated firms (n = 218). Finally, the RWD and GW ARIMA models jointly dominate the other expectation models (i.e., seasonal random walk with drift, the Brown-Rozeff (BR) and Foster (F) ARIMA models) for a default sample of firms (n = 796). We provide supplementary analyses that document the: (1) increased frequency of the number of loss quarters experienced by our sample firms in the holdout period (2000–2002) vis-à-vis the identification period (1990–1999); (2) reduced levels of earnings persistence for our sample firms relative to earnings persistence factors computed by Baginski et al. (2003) during earlier time periods (1970s–1980s); (3) relative impact on the predictive ability of the five expectation models conditioned upon the extent of analyst coverage of sample firms (i.e., no coverage, moderate coverage, and extensive coverage); and (4) sensitivity of predictive performance across subsets of regulated firms with the BR ARIMA model providing the most accurate predictions for utilities (n = 87) while the RWD model is superior for financial institutions (n = 131).

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The relation between R&;D intensity and future market returns: does expensing versus capitalization matter?

The Australian accounting environment provides an ideal setting for examining the impact of different accounting treatments of firms’ R&D activities on their subsequent returns. Unlike US firms, which can only expense R&D, Australian GAAP permits firms to either expense or capitalize their R&D expenditure. We examine separately the market impact of the R&D intensity of all R&D active firms, ‘capitalizers’ and ‘expensers’. Our results suggest that firms with higher R&D intensity perform better, regardless of the accounting method used, consistent with the resource-based view of the firm. We also find some evidence that firms which expense R&D outperform those which capitalize R&D after controlling for R&D intensity.

Why do firms repurchase stock to acquire another firm?

This study investigates firms that repurchase their stock to finance an acquisition. Since research shows that cash-financed acquisitions perform better than stock-financed acquisitions, why do firms that have available cash initiate the extra transactional step. I find these firms are well compensated for their efforts, especially in the long run. On average, these firms have negative abnormal returns prior to their repurchase announcements and thus may choose repurchasing to signal undervaluation. Furthermore, the stock acquisition step allows these firms to share risk, counteract the negative effects of dilution, and enjoy a tax advantage for their efforts.

Firm diversification and earnings management: evidence from seasoned equity offerings

Popular press suggests that diversified firms are more aggressive in managing earnings than non-diversified firms. We examine this claim in the seasoned equity offering (SEO) setting, where firms have been shown to have the incentive to manage earnings upwards. Using the cross-sectional modified Jones [(1991) J Accounting Res 29:193–228] model to measure discretionary current accruals, we find that discretionary current accruals are higher among diversified firms than in non-diversified ones. Our evidence is consistent with the view that the extent of firm diversification is directly related to the degree of earnings management. We further show that diversified issuers with high discretionary accruals underperformed other SEO firms.

Governance structure and the weighting of performance measures in CEO compensation

We empirically examine how governance structure affects the design of executive compensation contracts and in particular, the implicit weights of firm performance measures in CEO’s compensation. We find that compensation contracts in firms with higher takeover protection and where the CEO has more influence on governance decisions put more weight on accounting-based measures of performance (return on assets) compared to stock-based performance measures (market returns). In additional tests, we further find that CEO compensation in these firms has lower variance and a higher proportion of cash (versus stock-based) compensation. We further find that CEOs’ incentives (measured as changes in CEO annual wealth which includes expected changes in the value of the CEO’s equity holdings in addition to yearly compensation) do not vary across governance structures. These findings are consistent with CEOs in firms with high takeover protection and where they have more influence on governance negotiating different contracts.

Disclosure of fees paid to auditors and the market valuation of earnings surprises

We investigate if the SEC’s recently mandated disclosure of fees for audit and nonaudit services paid by firms to their incumbent auditors affected the market’s perception of auditor independence and earnings quality. Following the initial fee disclosures in 2001, we find that the market valuation of quarterly earnings surprises (earnings response coefficient) was significantly lower for firms with high levels of nonaudit fees than for firms with low levels of such fees. In contrast, in the year prior to the new fee disclosures, there was no reduction in earnings response coefficients for firms that subsequently reported high nonaudit fees. Our evidence suggests that mandated fee disclosures provided new information that was viewed by the market as relevant to appraising auditor independence and earnings quality.

The Reaction by Industry Insiders to M&;As in the European Financial Industry

This paper looks at the reaction by industry insiders, industry analysts and competing firms, to the announcement of M&As that took place in the European Union financial industry in the period 1998–2006. Analysts covering firms involved in an M&A transaction do not significantly alter their recommendation. This is consistent with the hypothesis that the transaction on average is “fairly priced” and that stock market prices reflect all relevant information on the assets. We also find that the correlation between excess returns for merging and competing firms is positive and, in some cases, significantly higher for domestic mergers than for international deals. This is consistent with the idea that domestic deals are more likely to have a negative impact on industry competition.

Stock Price Reaction to Evidence of Earnings Management: Implications for Supplementary Financial Disclosure

We condition security price reactions to quarterly earnings announcements on whether firms disclose supplementary balance sheet and/or cashflow information that can be used to estimate the consequences of earnings management. Disclosure of supplementary information is voluntary, and thus, we consider the possibility that firms that disclose balance sheet and/or cashflow information differ systematically from firms that do not disclose. Results indicate that investors discount evidence of earnings management at the disclosure date when supplementary information is disclosed. Such results indicate more informed earnings interpretations of quarterly earnings when firms provide balance sheet and/or cashflow information concurrently.

The value relevance of corporate restructuring charges

We document in this study that investors react positively to restructuring that is expected to be successful in improving firm performance. Investors’ reaction is significantly negative to unsuccessful firms when the magnitude of restructuring charges is high. Our results also show that investors’ reaction is significantly positive to restructuring that is intended to save costs through “workforce reduction” and “facility closings/consolidations”, but it is insignificant when restructuring is undertaken to recognize decline in asset values by asset write-offs and/or write-downs. Investor reaction is measured by 12-month buy-and-hold abnormal returns, whereas successful restructuring to improve the firm performance is based on the change in operating performance, measured by the industry-adjusted return on equity (ROE), over two subsequent years after restructuring.

Value relevance of value-at-risk disclosure

The SEC issued FRR No. 48 in 1997 to enhance public disclosure of firms’ exposures to market risk. We examine whether the quantitative value-at-risk (VAR) estimates disclosed by 81 non-financial firms during the period 1997–2002 are value-relevant using the earnings-returns relation. The empirical results indicate that high VAR is associated with weaker earnings-returns relation. Further analysis shows that VAR is positively and significantly associated with future stock return volatility. Our evidence suggests that investors perceive the earnings of firms with substantial market risk exposure to be less persistent, and adjust the future abnormal earnings for the higher risk exposure. Thus, this results in a lower expected rate of return.

Dividend decisions in the property and liability insurance industry: mutual versus stock companies

This article examines the effect of organizational forms on corporate dividend decisions by exploring the differences in dividend payout ratios between mutual and stock property–liability (P–L) insurers in the US. Our large sample evidence suggests: (1) mutual insurers tend to have a lower dividend payout ratio than stock insurers and the observed difference is about 4% points, holding other factors constant; (2) mutual insurers tend to adjust dividend payout ratios toward their long-run target levels more slowly than stock firms. These results are consistent with the capital constraints and/or greater agency costs of equity in mutual insurers.

An integrated analysis of the association between accrual disclosure and the abnormal accrual anomaly

We find no evidence of accrual mispricing for firms that disclose accrual information at earnings announcements. For these firms, the market differentiates the discretionary from the nondiscretionary components of the earnings surprise. In contrast, the market fails to distinguish between the discretionary and the nondiscretionary components of the earnings surprise for firms that do not disclose accrual information at earnings announcements. These firms experience some stock price correction around the filing date. However, the correction is only partial, resulting in a post-filing drift.