Franking credits and market reactions: Evidence from the Australian convertible security market

Abstract

This study investigates whether convertible preference share issues affect firm value in Australia. The literature suggests that the announcement of straight equity issues has a negative impact. However, the outcome for convertible preference share issues (CPS) remains unknown. We selected those CPS deemed to be equity-like under the 2001 tax classification framework for this study, as only such convertibles may attach franking credits to their dividends. In line with the straight equity studies, we found significant and abnormal negative returns during the announcement periods. We initially report no statistical significance between the issuing firm's available franking credit levels and market reaction. When we controlled for ownership concentration, however, we found a positive and statistical association. This is the first study to report such an association within the CPS market, suggesting that equity-like CPS resident investors may seek franking credits and so react positively to an issuing firm's level of available franking credits.