The Explanatory Power of Canadian Accounting Measures of Earnings Dilution*

This paper examines the properties of the accounting measures of dilution under pre‐2001 Canadian GAAP. Fully diluted earnings per share (EPS) presents investors with a per‐share figure that attempts to capture the maximum potential dilution that would occur if all dilutive convertible securities were converted and all dilutive stock options and rights exercised. We examine how the difference between basic and fully diluted EPS, which we refer to as the dilutive adjustment, affects the ability of EPS to predict one‐period‐ahead EPS. Moreover, we address the issue of the explanatory power of changes in the dilutive adjustment for unexpected stock returns over the year and at the earnings announcement date. Surprisingly, in contrast with the traditional accounting view that increases in the dilutive adjustment present the investor with bad news due to potential dilution of the future earnings stream, the dilutive adjustment is positively related to next period's earnings and increases in the dilutive adjustment are positively correlated with contemporaneous long‐window stock returns. These results can be attributed to the relation between the dilutive adjustment and the earnings process combined with a partial resolution of the uncertainty attached to growth firms. We find no evidence that investors use information from the disclosure of fully diluted EPS at the earnings announcement date. These results are consistent with increases in the dilutive adjustment capturing the partial realization of a firm's growth potential that more than outweighs the potential dilution attached to the convertible securities; however, this information appears to be already embedded in price prior to the disclosure of fully diluted EPS.     

Exploration Versus Extraction Costs as Determinants of Optimal Mineral-Rights Leases*

Leasing agreements concerning the exploitation of mineral deposits on government lands are analyzed with a special emphasis on the distinction between exploration and extraction activities. Results include a demonstration that the conditions for the optimal sharing of exploration costs are closely related to the conditions for the optimal pricing of public goods. Other results include a demonstration of how the sharing of exploration costs relative to the sharing of production costs is affected by asymmetries in information as well as by differences in risk aversion.     

Estimating the Information Value of Immediate Disclosure of the FOMC Policy Directive

This paper studies the information value of immediate disclosure of the FOMC policy directive. The value of disclosure is measured by its ability to reduce investors' expected uncertainty about futures interest rates where uncertainty is defined as the conditional variance of forecast errors. Analytical relationships between new information and the conditional variance of forecast errors are developed and the relation of the “uncertainty-reducing” value of information to its social value, as defined in recent literature, is indicated. In the empirical work, forward interest rates are treated as reflecting market expectations conditioned on existing information. The empirical tests indicate that information in the undisclosed, prevailing policy directives (1974–79) were able to make only a very marginal improvement in the predictive accuracy of forecasts relying only on the forward rates. Thus, the hypothesis that immediate disclosure has a significant information value to market participants is not supported.     

Direct Evidence on the Informational Properties of Earnings in Loan Contracts

Using a sample of firms that disclose the realizations of earnings used for determining covenant compliance in loan contracts, we provide direct evidence on the informational properties of earnings used in the performance covenants included in debt contracts. We find that the earnings measure used in performance covenants does not exhibit asymmetric loss timeliness and has significantly greater cash flow predictive ability than GAAP measures of earnings. We suggest that these results reflect the idea that contracting parties design accounting rules for performance covenants to enhance their efficacy as “tripwires.”     

Net Settlement and Counterparty Risk: Evidence from the Formation of the New York Stock Exchange Clearing House in 1892

The securities settlement literature indicates that centralized settlement can reduce monitoring incentives and lead to excessive risk‐taking and inefficient risk‐sharing. This paper examines broker‐failure rates and counterparty losses surrounding the transition from bilateral to multilateral settlement facilitated by the NYSE. Study results provide evidence that net settlement reduced failures without diminishing risk constraining incentives. The study constructs a controlled comparison of broker failures through data collected from the NYSE and the Consolidated Stock Exchange, which traded identical securities settled under different systems. The results suggest that multilateral settlement is advantageous when financial markets are highly stressed.     

Monetary Tightening and the Dynamics of US Race and Gender Stratification

This article explores the race and gender effects of monetary tightening in the US from 1979–2008 using state‐level panel data. Results indicate the costs of fighting inflation are unevenly distributed amongst workers, weighing more heavily on black females and black males, followed by white females, and lastly white males. We also find evidence that the relative unemployment costs of monetary tightening for subordinate groups vary with the black share of the population.     

SOLVING LARGE REPLACEMENT PROBLEMS WITH BUDGET CONSTRAINTS

Traditional replacement models assume unlimited capital. In practice, however, firms frequently use budgets to control their expenditures. Budget constraints necessitate that all replacement decisions be considered as a portfolio, creating a difficult combinatorial problem. In previous research, we developed a branch-and-bound algorithm for solving moderately-sized problems optimally. In this paper, we propose a dual heuristic for dealing with large, realistically sized problems. First, we solve the individual replacement problems ignoring the budget constraints. Then, we reduce, or eliminate, if possible, budget violations by solving a Lagrangian dual problem. The computational tests suggest that the effectiveness of the approach increases with problem size.     

EFFICIENCY OF THE TAIWAN STOCK MARKET*

This study uses two popular technical trading rules to assess whether the gradual liberalization of Taiwan's securities markets has improved the efficiency of its stock market. The results show that the two rules have considerable predictive power for 1983–1990, they become less predictive for 1991–1997, and they cannot predict the market for 1998–2005. These results indicate that the efficiency of Taiwan stock market has been greatly enhanced by the liberalization measures implemented over the last 20 years.