Earnings Announcements Of Firms Research Articles

Stock Market Reaction to Yearly Earnings Announcements for Firms in Financial Distress: Evidences from Italy

Stock Market Reaction to Yearly Earnings Announcements for Firms in Financial Distress: Evidences from Italy

Effect of Earnings Announcement on Share Prices of Companies Listed at the Nairobi Securities Exchange

Limited companies are characterized by separation of management and ownership, at the end of each financial period managers have a duty to communicate to the shareholders on the financial performance of the firm which is usually done through earnings announcement. Managers strive to maximize shareholders wealth by making rational financial decisions. Earnings announcements are important since it determines the firm’s financial performance in terms of profits and wealth. The inefficiencies in our markets today raise an issue on whether investors should cash in on the inefficiencies or encourage professionalism. Through market research investors can move from observing trends to a solid and more grounded investing that has an inclination to long term positive gains. The objectives of the study were; to determine how efficiently share prices react to earnings announcements, and the influence of the content of earnings announcements to investment decisions made by investors. The target population was all the 61 companies listed at the Nairobi securities exchange (NSE). Purposive sampling technique was used to select 8 companies as a sample size. The event study methodology was used to determine the effect of earnings announcement on share prices. Data was analyzed descriptively using mean and standard deviation while inferences were made using correlation analysis and t- statistic. The results obtained indicate that the abnormal returns around the earnings announcements date were not significant at 5% level. The study found negative relationship between the content of earnings announcements of firms listed at the NSE. There was also a significant difference between earnings announcement and share price changes. The study found that shares have positive returns before earnings announcement and negative returns in months immediately following the announcement. This study also established that all stocks studied have a positive beta value indicating that they adjust linearly to the performance of the market index. Five of them have a beta above one meaning that their systematic risk or return volatility is greater than the stock market. Increased volatility means more risk to the investors and there are higher abnormal returns for stocks which have a beta greater than one. The study provides information to investors to help them analyze the earnings in order to determine the firm’s profitability and wealth.

Market Segmentation, Information Asymmetry and Investor Responses in the Chinese A- and B-Markets

This paper examines changes in returns and trading volumes around earnings announcements for firms which have both A-shares (traditionally for local investors only) and B-shares (traditionally for foreign investors only) in China. It considers the impact of regulatory changes which reduced the segmentation of local and foreign investors across the two classes of shares. We find that both the A- and B-markets experience significant price changes around earning announcements. When the two markets are fully segmented, the magnitude of price changes in the A-share market are significantly smaller than the B-market which lends empirical support to the previous claim that the B-market is less informed. The changes in trading volume indicate that the B-market investors have less divergent expectations and interpretations of the pre-disclosure information compared to the A-market investors.However, when regulatory changes reduced the level of segmentation, the price and volume reactions in the two markets became more consistent. The results suggest that the A- and Bmarkets are more integrated as a result of the regulatory changes.

What Can We Learn from the Option Market About the Post-Earnings Announcement Drift?

The Post-Earnings Announcement Drift (PEAD) anomaly refers to the tendency of stock prices to continue drifting in the same direction as earnings surprises well through the subsequent earnings announcements; ignoring the autocorrelations in extreme earnings surprises across adjacent quarters. Currently, the two major competing theories to explain PEAD are: the risk premium hypothesis (RPH), which argues that the anomaly exists only because risk has been measured improperly; and, the under-reaction (behavioral) hypothesis (URH), which assumes investors do not completely utilize the auto-correlations of earnings surprises. We test the former (RPH) by using a finer metric for risk than used in prior research, namely, the change in implied volatilities obtained from options prices immediately before and after the earnings announcements. Inconsistent with the predictions of RPH: (1) we do not find a positive correlation between the implied volatility changes and earnings surprises; and (2) we find that implied volatilities (risk) actually decrease most after the earnings announcements for firms with the most positive earnings surprises. Using volatility based option trading strategies (straddles), we examine if option traders have a similar URH bias to those of equity traders. We find that option straddles based on extreme earnings surprises in the prior quarter are not more profitable than straddles on mild earnings surprises, indicating that option traders already incorporate the prior earnings surprise in option prices.

Management Insights

Management Insights

The Party's Over: The Role of Earnings Guidance in Resolving Sentiment-Driven Overvaluation

This paper shows that an important link between investor sentiment and firm overvaluation is optimistic earnings expectations, and that management earnings guidance helps resolve sentiment-driven overvaluation. Using previously identified firm characteristics, we find that most of the negative returns to uncertain firms in months following high-sentiment periods fall within the three-day window around the issuance of management earnings guidance. Comparisons of guidance months to nonguidance months show that guidance issuance affects the magnitude and not just the daily distribution of negative returns. There is also some evidence of negative returns around earnings announcements for firms that previously issued guidance, suggesting that guidance does not entirely correct optimistic earnings expectations. To provide additional insight into the strength of the guidance effect, we show that the market reacts more strongly to surprises, particularly negative surprises, following high-sentiment periods. Finally, firms with higher transient institutional ownership are less likely to guide, and their guidance is less likely to contain bad news following high-sentiment periods, indicating that managers with a short-term focus are hesitant to correct optimistic market expectations.This paper was accepted by Brad Barber, Teck Ho, and Terrance Odean, special issue editors.

Pre-Earnings Announcement Drift

We present evidence of a predictable drift in stock prices before the earnings announcements of firms that announce their earnings later than other firms in their industry. We form portfolios based on the returns of later announcers that are implied by the abnormal returns of earlier announcers and the historical pair-wise covariance of the abnormal earnings announcement date returns of earlier and later announcers. A long-short trading strategy based on these implied returns generates monthly returns of more than 100 basis points. The drift is neither due to the well-known momentum effect nor a manifestation of post-earnings announcement drift; it is evident both between the earlier announcers’ earnings announcement dates and the later announcers’ earnings announcement dates and at the later announcers’ earnings announcement dates. The continued under-reaction after later announcers’ earnings announcements is shown to be an under-reaction to the later announcers’ own earnings announcements (i.e., post-earnings announcement drift) rather than a continued under-reaction to the earnings news of earlier announcers (i.e., pre-earnings announcement drift). We show that transaction costs explain the predictability of later announcers’ returns.

The Party's Over: The Role of Earnings Guidance in Resolving Sentiment-Driven Overvaluation

This paper shows that an important link between investor sentiment and firm overvaluation is optimistic earnings expectations, and that management earnings guidance aids in resolving sentiment-driven overvaluation. Using the firm characteristics identified by Baker and Wurgler (2006), we find that most of the negative returns to uncertain firms in months following high sentiment periods fall within the three-day window around management earnings guidance issuance. Comparisons of guidance months to non-guidance months show that guidance issuance affects the magnitude and not just the daily distribution of negative returns. There is also some evidence of negative returns around earnings announcements for firms that previously issued guidance, suggesting that guidance does not entirely correct optimistic earnings expectations. To provide additional insight into the strength of the guidance effect, we show that the market reacts more strongly to surprises and particularly negative surprises following high sentiment periods. Finally, firms with higher transient institutional ownership are less likely to guide and their guidance is less likely to contain bad news following high sentiment periods, indicating that managers with a short-term focus are hesitant to correct optimistic market expectations.

The Unappreciated Value of Marketing: The Moderating Role of Changes in Marketing and R&D Spending on Valuation of Earnings Reports

Because current earnings predict future financial performance, the stock market reacts strongly to earnings announcements. How rapidly and in what manner information about marketing actions and strategies is accounted for in the stock valuation is less clear. We examine the financial market's ability to fully and timely value marketing-related information released along with quarterly earnings announcements. We find evidence consistent with the market initially under-appreciating marketing and R&D effort. Specifically, we find differences in the immediate market response to earnings announcements for firms expanding versus reducing their marketing and R&D effort. However, we also observe a significantly greater positive stock price drift (i.e., systematic stock price adjustment) in the months following an earnings announcement for firms increasing marketing and/or R&D expenditures. We examine the dynamics and the mechanism underlying this differential drift. Firms increasing their marketing and/or R&D spending report significantly greater future operating performance than firms decreasing their marketing and R&D spending and the stock price adjustment (drift) accelerates around the time of the subsequent earnings announcement. Our findings suggest that the stock market takes time to fully incorporate implications of strategic marketing decisions. They also suggest the stock market tends to update firm valuation when the outcomes of marketing strategies are realized in future financial performance and new performance signals are sent to the market.

Using Earnings Announcement Returns as Evidence of Mispricing: The Importance of Information Flow

Numerous studies have used the proportion of anomalous returns earned during earnings announcement intervals as evidence to distinguish between risk and mispricing explanations for those returns. This approach implicitly assumes that returns expected as compensation for risk-bearing are earned evenly through time. However, previous research also suggests that expected returns may be higher at earnings announcements than at other times when the flow of firm-specific information between earnings announcements is sparse and the disclosure of earnings is expected to resolve significant uncertainty. We provide evidence that returns are more concentrated at earnings announcements for firms with low information flow than for firms with high information flow. We then demonstrate that earnings announcement returns concentrations associated with the well-known book-to-market returns anomaly are no longer evident after controlling for cross-firm variation in information flow. Overall, our results suggest that before interpreting a concentration of anomalous returns at earnings announcements as evidence of mispricing, care should be taken to insure that the concentration is not related to information flow.

The Effect of Adopting Accounting-Based Bonus and Performance Incentive Plans on the Earnings Response Coefficient

This study examines the disparate market response to earnings announcements for firms adopting bonus or performance incentive plans that state plan goals in terms of an earnings-based measure of performance. Bonus plans have a one year performance horizon while performance incentive plans reward managers for improved performance over a three-to-six-year period. A reduction in the earnings response coefficient is predicted for firms that adopt bonus plans since prior research documents that managers of firms with bonus plans have incentives to manipulate earnings numbers. On the other hand, an increase in the earnings response coefficient of firms that adopt performance incentive plans is expected as prior research demonstrates that managers of firms adopting performance incentive plans are motivated to improve long-term profitability. Our results do not support the hypothesis that firms adopting bonus plans experience a decline in the earnings response coefficient. However, our results are consistent with the hypothesis that the earnings response coefficient significantly increases from the pre- to the post-adoption period for firms adopting performance incentive plans.

Credible Disclosure of Industry-Wide Information Through Trade Associations: Evidence from the Semiconductor Industry

Prior analytical research suggests that competitive firms within an industry may not voluntarily share their private market information through a trade association. Given legal restrictions which preclude trade associations from compelling participation or accurate reporting by firms or revealing their proprietary data, it is uncertain whether trade associations can design and implement systems to collect and transmit useful market information. This paper documents significant stock price movements on release dates of aggregate industry data on new orders and shipments by the Semiconductor Industry Association (SIA) each month which are positively associated with changes in the numbers disclosed. The industry information released is positively correlated with earnings changes in the subsequent quarterly earnings announcements of firms within the industry. Additional tests indicate that semiconductor firms? stock prices respond significantly to their quarterly earnings announcements, and that the prior disclosure of aggregate industry information does not materially reduce the valuation relevance of earnings reports of semiconductor firms . Overall, these findings support the hypothesis that trade associations are able to obtain reliable data from firms, aggregate it into statistics that do not reveal a specific company?s information, and then distribute aggregate statistics back to participating firms in a timely manner. Our analysis further suggests that while the aggregate industry data are informative for investors in high-tech stocks, they do not reduce the valuation impact of semiconductor firms? quarterly earnings.

The Information Content of Segment Disclosures: Australian Evidence

This paper investigates whether the voluntary decomposition of consolidated earnings disclosures into industry segments has information content in the sense that such disclosures better enable investors to predict earnings. The broad rationale underlying the experimental design is that if segment disclosure does enable investors to better predict earnings then residual abnormal returns (after controlling for unexpected earnings) surrounding the earnings announcements of firms providing segment disclosures should on average be significantly lower than a matched’ group of firms that do not provide this type of disclosure. Using a short event window design, our results support this view.