The impact of securities regulation on the earnings properties of European cross-listed firms

The objective of this study was to determine if the securities regulation in a foreign country is related to the earnings quality of European firms cross-listed in Europe. The study compared the post-listing earnings quality of 112 European firms cross-listed in 13 European stock exchanges during 1989–2001 to those of a controlled sample of non-cross-listed firms. Earnings quality was assessed by the use of reporting discretion to manage earnings. The regulatory strictness was represented by three indices of securities regulation.Empirical results provide some support to a positive association between earnings quality and the foreign securities regulation, suggesting that the foreign regulatory requirements have little or no effect on the reported earnings of European firms cross-listed in European exchanges.     

The impact of taxation on bank profits: Evidence from EU banks

Using bank-level data for the period 1990–2005, we investigate to what extent European banks are able to shift their tax-burden forward. We examine the effects of corporate income tax (CIT) and value added tax (VAT) on pre-tax profits and their components, and find that both are shifted forward. The pass-through mainly involves total operating income, but as far as CIT is concerned it also affects loss provisions, with negative implications on stability of the banking systems.     

Day of the week effect on foreign exchange market volatility: Evidence from Turkey

This paper assesses the day of the week effect of the daily depreciation of the Turkish lira (TL) against the US dollar (USD) and its volatility. The empirical evidence from Turkey presented here suggests that Thursdays are associated with higher and Mondays with lower depreciation rates compared to those of Wednesdays. Moreover, Mondays and Tuesdays are associated with higher volatility than Wednesdays.     

Managing earnings risk under SFAS 133/IAS 39: the case of cash flow hedges

Whereas empirical studies suggest that firm hedging is influenced by accounting standards such as SFAS 133 and IAS 39, the nature of earnings risk management remains a puzzle. I develop a model that shows how non-financial firms that prefer predictable earnings jointly optimize their hedging strategy and the choice between fair-value and hedge accounting. I also examine the implications of these decisions for earnings predictability under SFAS 133/IAS 39. In this model, which has two accounting periods, earnings uncertainty arises from economic shocks and accounting mismatches. The specific influence of accounting mismatches is isolated with two benchmarks, one for firm hedging (cash flow hedging) and another for an accounting system that fully complies with the matching principle. In this forward-looking analysis, most firms significantly decrease the hedging of long-term earnings when faced with persistent price dynamics. Under non-persistent price dynamics, the levels of long-term earnings hedging are only slightly reduced. Therefore, the influence of accounting mismatches on firm hedging is highly dependent on the economic environment in which a firm operates, which suggests that the potential influence of accounting on firm hedging may be difficult to identify in archival studies. The analysis also offers a forward-looking perspective on the changing properties of earnings since the late 1970s that supplements the existing body of archival accounting studies. For example, under persistent price dynamics, forward-looking short-term earnings volatility may increase tenfold or more for cash flow hedging under fair-value accounting compared with a perfectly matched accounting system.     

The determinants of price discovery: Evidence from US-Canadian cross-listed shares

We examine the determinants of price discovery for Canadian firms cross-listed on the main US stock exchanges over the period 1996–2011. Sampling at a one-minute frequency, we compute Gonzalo and Granger Component Shares (CS) and employ a system GMM approach to control for persistence in price discovery and endogeneity between CS and its determinants. We find that price discovery is highly persistent and that there is strong evidence of simultaneity between CS and its determinants. We conclude that lower relative spreads and higher relative trading activity increase an exchange’s contribution to price discovery. We also document that it is small trades that drive price discovery, particularly since the introduction of decimalization.     

The impact of trading halts on liquidity and price volatility: Evidence from the Australian Stock Exchange

This study examines market behaviour around trading halts associated with information releases on the Australian Stock Exchange, which operates an open electronic limit order book. Using the Lee, Ready and Seguin (1994) pseudo-halt methodology, we find trading halts increase both volume and price volatility. Trading halts also increase bid-ask spreads and reduce market depth at the best-quotes in the immediate post-halt period. The results of this study imply that trading halts impair rather than improve market quality in markets that operate open electronic limit order books.     

The impact of foreign bank entry in emerging markets: Evidence from India

This paper uses the entry of foreign banks into India during the 1990s—analyzing variation in both the timing of the new foreign banks’ entries and in their location—to estimate the effect of foreign bank entry on domestic credit access and firm performance. In contrast to the belief that foreign bank entry should improve credit access for all firms, the estimates indicate that foreign banks financed only a small set of very profitable firms upon entry, and that on average, firms were 8 percentage points less likely to have a loan after a foreign bank entry because of a systematic drop in domestic bank loans. Similar estimates are obtained using the location of pre-existing foreign firms as an instrument for foreign bank locations. Moreover, the observed decline in loans is greater among smaller firms, firms with fewer tangible assets, and firms affiliated with business groups. The drop in credit also appears to adversely affect the performance of smaller firms with greater dependence on external financing. Overall, this evidence is consistent with the exacerbation of information asymmetries upon foreign bank entry.     

Transmission of shocks from cross-listed markets to the return and volatility of domestic stocks

This paper examines the transmission of information from German and the U.S. markets to domestic markets using daily price and volume data of 264 stocks from 26 countries that are traded in their home country and cross-listed outside their home market as depository receipts (DRs); in the German market as Global Depository Receipts (GDRs) and in the U.S. as American Depository Receipts (ADRs). We identify days with significant news arrivals in a market through minimum thresholds for both significant absolute price change and trading volume. DR returns and volatilities are affected by the shocks in the markets where they are cross-listed controlling for domestic shocks. Contemporaneous and/or lagged shocks to the cross-listed markets are transmitted to domestic stock returns and volatilities. South American DRs are affected mostly by U.S. shocks, while Eastern European DRs show greater reaction to the German shocks.     

The impact of SFAS No. 141 on earnings predictability of merging firms: Evidence from the initial year of implementation

This study examines the impact of SFAS 141 on earnings predictability of merging firms. I expect a relative improvement in analysts’ earnings forecast accuracy for merging firms versus non-merging peers after SFAS 141 adoption. I restrict the post-SFAS 141 sample to the initial year of SFAS 141 implementation. This research design disentangles effects of SFAS No. 141 from those of SFAS No. 142. The evidence from analysis of 48 pairs of merging and matched non-merging firms is consistent with expectations and confirms the increase in earnings predictability for merging firms versus their non-merging peers post-SFAS 141. Results of additional tests suggest that earnings predictability improvement more likely follows from extended disclosure requirements and the other changes in the Purchase Method (“better purchase” issue) than from the elimination of Poolings-of-Interest (“purchase vs. pooling” issue).     

The impact of foreign equity flows on market volatility during politically tranquil and turbulent times: The Egyptian experience

Since the popular uprising of January 2011, a series of momentous events has rocked Egypt’s political order, jeopardising the country’s economic and financial stability. This study examines the role of foreign capital flows in the volatility of the Egyptian equity market, and whether this role has changed due to the recent domestic political unrest. These issues are empirically addressed in the context of GMM estimation. The results suggest that, unlike those of foreign individual investors, trades of foreign institutional investors contribute to market fluctuations, whether prior to or following the January 2011 uprising. Sell trades by foreign individual and institutional investors exert a significant influence on volatility. Further, when volume is split into its anticipated and unanticipated components, the results show that surprises in trading activity by either group tend to exacerbate volatility in periods of calm and turmoil. These findings are broadly insensitive to volatility measures and robust, even after controlling for a variety of relevant determinants of market volatility. The evidence documented in this study provides important implications for policy markers.     

The dynamics of price discovery for cross-listed shares: Evidence from Australia and New Zealand

This paper studies the dynamics of price discovery for markets with bilateral cross-listings. Using a sample of four Australian stocks cross-listed in New Zealand and five New Zealand stocks cross-listed in Australia for the period January 2002 to December 2007, we assess Hasbrouck (1995) information shares and Grammig et al. (2005) conditional information shares over time. We observe that in both cases the home market is dominant in terms of price discovery. However, when studying price discovery over time, we find that the importance of the Australian market (the larger of the two markets) is increasing for both Australian and New Zealand domiciled firms. Finally, using panel regression analysis, we find that the growth in the importance of the Australian market is positively related to the growth in the size of the firm and negatively related to the size of the percentage spread in the Australian market, implying that as firms grow larger and their cost of trading in Australia declines, the Australian market becomes more informative.     

Informed traders of cross-listed shares trade more in the domestic market around earnings releases

This paper examines informed trading and price discovery for Canadian shares cross-listed on the Toronto Stock Exchange and the main U.S. exchanges. The domestic Canadian market can absorb higher demand for liquidity but offers no trading cost advantage. During earnings non-announcement periods, the intra-market probability of informed trading (PI) is similar on both national markets, and both national markets contribute to price discovery. The magnitude and elapsed time over which trading volumes are increased when earnings are announced are higher in the domestic Canadian market. Around earnings announcements, PI decreases only on the U.S. market and the Canadian market contributes more to price discovery. To infer the fundamental values of the underlying cross-listed firms, market participants should monitor both markets, and intensify their monitoring of the Canadian market during earnings announcement periods.     

The role of banks in the governance of nonfinancial firms: Evidence from Europe

The aim of our research is to investigate the important role of banks in the governance of companies listed in the Euronext 100 index. Primarily, this research seeks to examine the impact of a bank’s presence within a firm, as a creditor or shareholder, on firm performance, as well as the motivations of banks to acquire holdings, and whether the presence of a bank as a shareholder of a firm facilitates its access to bank loans. Empirical analyses are conducted with a sample of 86 nonfinancial institutions listed in the Euronext 100 index over the period 2008–2013 using the three-stage least squares method. The study shows, first, that the presence of a bank within a firm, as a creditor or shareholder, is positively related to firm performance. Moreover, the firm’s performance is an important determinant of the presence of bank shareholding. Finally, the presence of a bank as a shareholder of a firm does not facilitate its access to bank loans.     

A tale of two time zones: The impact of substitutes on cross-listed stock liquidity

This article examines how the market quality of European cross-listed stocks is affected by the partial-day availability of close substitutes, i.e., shares of the same companies that are traded in their home markets but are not fully fungible with the cross-listed shares. Our findings suggest that narrower spreads and more competitive liquidity provision during overlapping trading hours reflect a significant impact from the availability of more substitutes in addition to the enhanced information environment and liquidity externalities when home markets are open. Our results also provide a richer picture of specialists’ intraday activities and offer new evidence of market integration.     

The impact of the Multi-jurisdiction Disclosure System on audit fees of cross-listed Canadian firms

The Multi-jurisdiction Disclosure System (MJDS), a treaty between Canada and the United States (U.S.), was intended to facilitate the cross-listing of a firm's securities in the neighboring country. Under this system, eligible Canadian companies are allowed to use home-country documents to meet U.S. disclosure requirements and these documents are generally not reviewed by the Securities and Exchange Commission (SEC). We posit that the single-reporting requirement and lower SEC scrutiny may result in lower audit fees for MJDS firms. Based on audit-fee disclosures mandated by the SEC rule-making authority granted by the Sarbanes-Oxley Act of 2002, we find a negative association between audit fees paid by U.S. cross-listed Canadian companies and their use of the MJDS. This result suggests that the lower audit fees provide an economic incentive to use the MJDS. Thus, our study provides evidence that the implementation of the MJDS may help facilitate cross-border listings by reducing audit costs. Additionally, this study confirms, for Canadian firms, some of the audit-fee determinants reported in earlier studies.     

The effects of focus versus diversification on bank performance: Evidence from Chinese banks

This paper investigates the effects of focus versus diversification on bank performance using data on Chinese banks during the 1996–2006 period. We construct a new measure, economies of diversification, and compare the results to those of the more conventional focus indices, which are based on the sum of squares of shares in different products or regions. Diversification is captured in four dimensions: loans, deposits, assets, and geography. We find that all four dimensions of diversification are associated with reduced profits and higher costs. These results are robust regardless of alternative measures of diversification and performance. Furthermore, we observe that banks with foreign ownership (both majority and minority ownership) and banks with conglomerate affiliation are associated with fewer diseconomies of diversification, suggesting that foreign ownership and conglomerate affiliation may play important mitigating roles. This analysis may provide important implications for bank managers and regulators in China as well as in other emerging economies.     

The impact of climate risk on earnings management: International evidence

This study explores the influence of climate risk on properties of firms’ financial reporting practices with observations collected from 64 countries between 2005 and 2016. We use a country-level climate risk indicator developed by Germanwatch to measure the degree of damage from extreme weather events, and find that climate risk positively influences firms’ engagements in both accruals-based and real earnings management. Furthermore, we document that the above-mentioned effects of climate risk are moderated by the quality of country-level public governance. Subsample analysis suggests that the main effect of climate risk on earnings management is more pronounced for firms from developed countries, for firms in environment-sensitive industries, and for firms reporting losses. Our findings, which are supported by a battery of robustness tests, have important implication for regulators and policymakers.     

An exploratory study of earnings management detectability,analyst coverage and the impact of IFRS adoption: Evidence from China

Analysts serving as external monitors to managers is a topic of considerable interest in the analyst coverage literature. There are two outcomes of analyst coverage studies: curbing and stimulating earnings management. However, recent studies (such as Yu, 2008) only provide evidence supporting the curbing side. Given the fact that the data of these studies focus on developed markets and the finding of Rodríguez-Pérez and Hemmen (2010) that external governance mechanisms may stimulate earnings management in an opaque information environment, we conjecture whether stimulating side would be dominant in emerging markets. China offers a valuable setting for us to test the question. Using the data of China capital market from 2003 to 2009, we find that analyst coverage stimulates earnings management through above-the-line items (ALIs) where earnings management cannot be easily detected, and curbs earnings management through below-the-line items (BLIs) where earnings management can be easily detected. We also find that the adoption of International Financial Reporting Standards (IFRS) in China does create many new opportunities for managers’ earnings management but does not significantly improve the monitoring effect of analyst coverage. We only find that compared to those without analyst coverage, firms with analyst coverage have a lower level of earnings management through BLIs after IFRS adoption. These findings suggest that information opacity may weaken the monitoring effect of external corporate governance mechanisms and high quality accounting standards in the literal sense may not enhance the monitoring effect of external corporate governance mechanisms if it is not compatible with the market’s institutional environment. In addition, we find that firms with earnings meeting the benchmark have a lower level of earnings management, which indicates that bright-line accounting based rules used in emerging capital markets may constrain the managers’ behavior.     

The association between management earnings forecasts, earnings management, and stock market valuation: Evidence from French IPOs

This study investigates managers' motivations to engage in earnings management through purposeful interventions in the setting of discretionary accruals, in the context of initial public offerings (IPOs) in France. Firms issuing forecasts in their prospectuses are expected to differ from nonforecasters in the level of earnings management during the year following the public offering. Within the context of contracting theory, four research questions are addressed. First, are IPO firms issuing forecasts more inclined to manage earnings 1 year after an IPO compared to nonforecasting firms? Second, is a forecasting firm's level of earnings management conditioned by earnings-forecast deviation? Third, is earnings management by IPO forecasting firms affected by contractual and governance environments? Fourth, how do investors see through earnings management following IPO earnings forecasts, i.e., how do stock market participants value earnings components (i.e., nondiscretionary and discretionary accruals)? Our findings document that in the year following an IPO, the magnitude of earnings management is much higher for forecasters than for nonforecasters. Results also show that a firm's accrual behavior is affected by earnings-forecast deviation, but the relationship is moderated by contractual and governance constraints. Finally, it would appear that French investors do not adequately readjust the relationship between reported earnings and a firm's market value for the year in which earnings are subject to manipulations.     

The impact of product market competition on earnings quality

The objective of this paper is to examine the impact of product market competition on earnings quality. Based on a sample from the US manufacturing sector for the period 1996–2005, we find consistent evidence showing a positive relation between product market competition and earnings quality. Additional tests also confirm a positive relation between product market competition and the precision of public and private information held by investors and analysts. We also provide evidence that firms competing in concentrated and heterogeneous industries are associated with a number of earnings attributes and information quality not shared by those competing in concentrated but homogeneous industries. These findings are consistent with the intuition that firms enjoying a monopolistic advantage tend to avoid the attention of their competitors and politicians by creating a more opaque information environment.