EXPECTATIONS FORMATION AND RISK IN FOUR FOREIGN EXCHANGE MARKETS

[Scientific enquiry] is a matter of comparing the corollariesof a whole group of hypotheses to a whole group of facts. Pierre Duhem, The Aim and Structure of Physical Theory, Paris,1906.     

Corporate disclosure and price discovery associated with NYSE temporary trading halts*

Abstract. This paper examines the properties of corporate disclosure and price discovery associated with NYSE temporary trading halts. We address the hypothesis that managers release highly informative disclosures outside of trading hours or seek a trading halt to allow investors greater opportunity to assess the implications of new information. We investigate whether: (a) disclosures associated with trading halts are highly price informative, and (b) the process of price discovery as reflected in specialist indications is more protracted and difficult for extreme and bad news halts. We find that halts arise from non-routine highly informative disclosures for which price discovery is more uncertain and protracted. First, most disclosures associated with our sample of trading halts are ones whose arrival investors cannot predict but which have large valuation effects (e.g., corporate takeovers and leveraged buyouts). Second, halts associated with large price changes exhibit more uncertain and protracted price discovery during the halt. Specialist indications for extreme news halts have (1) bigger differences between high and low prices, (2) poorer predictive accuracy with respect to opening price, and (3) greater frequency. Finally, similar comparisons for bad and good news only weakly support the conjecture that bad news is associated with more certain and protracted price discovery. Résumé. Les auteurs examinent les propriétés des renseignements fournis par les sociétés et de la supputation des cours en période d'arrêt temporaire des opérations de la Bourse de New York. Ils se penchent sur l'hypothèse selon laquelle les gestionnaires publient des renseignements très informatifs en dehors des heures d'activite ou en période d'arrêt des opérations, de façon à donner aux investisseurs tout le loisir d'évaluer les conséquences de ces renseignements. Les auteurs se demandent 1) si l'information publiée en période d'arrêt des opérations est très éclairante sur les cours et b) si le processus de supputation du cours tel que l'illustrent les indications des spécialistes est plus long et plus difficile lorsque les arrêts sont associés à des renseignements qui entraînent des variations du cours d'une grande amplitude ou des variations du cours négatives. Selon les auteurs, il y a arrêt des opérations lorsque les renseignements publiés sortent de l'ordinaire et que leur contenu en information est élevé, si bien que le processus de supputation du cours est plus incertain et plus long. Premièrement, la plupart des déclarations associées à notre échantillon d'arrêts des opérations sont de nature telle qu'il était impossible pour les investisseurs d'en prédire l'occurrence, mais ont des conséquences majeures sur l'évaluation de l'entreprise (par exemple, les prises de contrôle et les prises de contrôle adossées). Deuxièmement, les arrêts des opérations correspondant à d'importantes variations du cours sont caractérisés par un processus de supputation du prix plus incertain et plus long. Les indications des spécialistes en ce qui a trait aux arrêts des opérations associés à des renseignements qui entraînent des variations du cours d'une grande amplitude présentent 1) un écart plus grand entre cours élevé et cours faible, 2) moins de précision dans les prédictions relatives au cours d'ouverture et 3) une fréquence supérieure. Enfin, des comparaisons analogues en ce qui a trait aux renseignements positifs et aux renseignements négatifs corroborent seulement faiblement l'hypothèse selon laquelle les renseignements négatifs rendent la processus de supputation du cours plus certain et plus long.     

FREE CASH FLOW (FCF), ECONOMIC VALUE ADDED (EVA™), AND NET PRESENT VALUE (NPV):. A RECONCILIATION OF VARIATIONS OF DISCOUNTED-CASH-FLOW (DCF) VALUATION

The paper assists the user of DCF methods by clearly setting forth the relationship of free-cash-flow (FCF) and economic value added (EVA?) concepts to each other and to the more traditional applications of DCF thinking. We follow others in demonstrating the equivalence between EVA and NPV, but our approach is more general in that it links the problems of security valuation, enterprise valuation, and investment project selection. Additionally, our approach relates more directly to use of standard financial accounting information. Beginning with cash budget identity, we show that the discounting of appropriately defined cash flows under the free-cash-flow valuation approach (FCF) is mathematically equivalent to the discounting of appropriately defined economic profits under the EVA? approach. The concept of net operating profit after-tax (NOPAT), found by adding after-tax interest payments to net profit after taxes, is central to both approaches, but there the computational similarities end. The FCF approach focuses on the periodic total cash flows obtained by deducting total net investment and adding net debt issuance to net operating cash flow, whereas the EVA? approach requires defining the periodic total investment in the firm. In a project valuation context, both FCF and EVA? are conceptually equivalent to NPV. Each approach necessitates a myriad of adjustments to the accounting information available for most corporations.     

Political Connections and Corporate Bailouts

We analyze the likelihood of government bailouts of 450 politically connected firms from 35 countries during 1997–2002. Politically connected firms are significantly more likely to be bailed out than similar nonconnected firms. Additionally, politically connected firms are disproportionately more likely to be bailed out when the International Monetary Fund or the World Bank provides financial assistance to the firm's home government. Further, among bailed‐out firms, those that are politically connected exhibit significantly worse financial performance than their nonconnected peers at the time of and following the bailout. This evidence suggests that, at least in some countries, political connections influence the allocation of capital through the mechanism of financial assistance when connected companies confront economic distress.     

An Experimental Investigation of Approaches to Audit Decision Making: An Evaluation Using Systems‐Mediated Mental Models*

The objective of this research is to articulate a decision‐making foundation for the systems audit approach. Under this audit approach, the auditor first gains an understanding of the auditee's economic environment, strategy, and business processes and then forms expectations about its performance and financial reporting. Proponents of this audit approach argue that decision making is enhanced because the knowledge of the system allows the auditor to focus on the most important risks. However, there has not been an explicit framework to explain how systems knowledge can enhance decision making. To provide such a framework, we combine mental model theory with general systems theory to produce a hypothesis we refer to as a systems‐mediated mental model hypothesis. We test this hypothesis using experimental economics methods. We find that (1) subjects make systematic errors under the setting without an organizing framework provided by the systems information, and (2) the presence of an organizing framework results in lower reporting errors. Importantly, the organizing framework significantly enhances decision making in the settings where the environment changed. Establishing a decision‐making foundation for systems audits can provide an important building block that, in part, can contribute to the development of a more effective and efficient audit technology ‐ an important objective now when audits are facing a credibility crisis.