Advertisement

Are earnings predictable?

Evidence from equity issues and buyback announcements
  • Shahram AminiEmail author
  • Vijay Singal
Article
  • 34 Downloads

Abstract

We find that market reactions to earnings announcements can be predictable. Four-factor abnormal returns to earnings announcements that follow buyback announcements are higher by 5.1% than similar returns to earnings announcements that follow equity issues over the (− 1,+ 30) window; the difference is 2.2% when unadjusted returns are used. The magnitude is large and economically and statistically significant. The drift in these returns is unrelated and distinct from the post-earnings announcement drift. For example, we find positive drift for firms making buyback announcements even when they exhibit negative earnings surprises and find negative drift for firms issuing equity even when they show positive earnings surprises. Since the study looks at short periods around earnings announcements, it does not suffer from benchmarking errors that may influence long-horizon returns.

Keywords

Earnings predictability Buybacks/Repurchases Equity issues SEOs Information asymmetry Market efficiency 

JEL Classification

G14 G32 G35 

Notes

References

  1. Agrawal A, Jaffe JF, Mandelker GN (1992) The post-merger performance of acquiring firms: a re-examination of an anomaly. J Financ 47(4):1605–1621CrossRefGoogle Scholar
  2. Akbas F (2016) The calm before the storm. J Financ 71(1):225–266CrossRefGoogle Scholar
  3. Asquith P, Mullins DW (1986) Equity issues and offering dilution. J Financ Econ 15(1):61–89CrossRefGoogle Scholar
  4. Baker M, Wurgler J (2002) Market timing and capital structure. J Financ 57(1):1–32CrossRefGoogle Scholar
  5. Barber BM, Lyon JD (1997) Detecting long-run abnormal stock returns: the empirical power and specification of test statistics. J Financ Econ 43(3):341–372CrossRefGoogle Scholar
  6. Bartov E (1991) Open-market stock repurchases as signals for earnings and risk changes. J Account Econ 14(3):275–294CrossRefGoogle Scholar
  7. Bartov E, Givoly D, Hayn C (2002) The rewards to meeting or beating earnings expectations. J Account Econ 33(2):173–204CrossRefGoogle Scholar
  8. Bessembinder H, Zhang F (2013) Firm characteristics and long-run stock returns after corporate events. J Financ Econ 109(1):83–102CrossRefGoogle Scholar
  9. Boehmer E, Huszar ZR, Jordan BD (2010) The good news in short interest. J Financ Econ 96(1):80–97CrossRefGoogle Scholar
  10. Bolton P, Chen H, Wang N (2013) Market timing, investment, and risk management. J Financ Econ 109(1):40–62CrossRefGoogle Scholar
  11. Brav A (2000) Inference in long-horizon event studies: A Bayesian approach with application to initial public offerings. J Financ 55(5):1979–2016CrossRefGoogle Scholar
  12. Brav A, Gompers PA (1997) Myth or reality? The long-run underperformance of initial public offerings: Evidence from venture and nonventure capital-backed companies. J Financ 52(5):1791–1821CrossRefGoogle Scholar
  13. Brav A, Geczy CC, Gompers PA (2000) Is the abnormal return following equity issuances anomalous? J Financ Econ 56(2):209–249CrossRefGoogle Scholar
  14. Brockman P, Khurana IK, Martin X (2008) Voluntary disclosures around share repurchases. J Financ Econ 89(1):175–191CrossRefGoogle Scholar
  15. Chan K, Ikenberry DL, Lee I (2004) Economic sources of gain in stock repurchases. J Financ Quant Anal 39(3):461–479CrossRefGoogle Scholar
  16. Chan K, Ikenberry DL, Lee I (2007) Do managers time the market? Evidence from open-market share repurchases. Journal of Banking & Finance 31(9):2673–2694CrossRefGoogle Scholar
  17. Cochrane JH (2011) Presidential address: Discount rates. J Financ 66 (4):1047–1108CrossRefGoogle Scholar
  18. Cohen DA, Zarowin PA (2010) Accrual-based and real earnings management activities around seasoned equity offerings. J Account Econ 50(1):2–19CrossRefGoogle Scholar
  19. Corwin SA, Schultz PH (2012) A simple way to estimate bid-ask spreads from daily high and low prices. J Financ 67(2):719–760CrossRefGoogle Scholar
  20. Cusatis PJ, Miles JA, Woolridge JR (1993) Restructuring through spinoffs: the stock market evidence. J Financ Econ 33(3):293–311CrossRefGoogle Scholar
  21. DeAngelo H, DeAngelo L, Stulz RM (2010) Seasoned equity offerings, market timing, and the corporate lifecycle. J Financ Econ 95(3):275–295CrossRefGoogle Scholar
  22. Denis DJ, Sarin A (2001) Is the market surprised by poor earnings realizations following seasoned equity offerings? J Financ Quant Anal 36(2):169–193CrossRefGoogle Scholar
  23. Dittmar AK, Field LC (2015) Can managers time the market? Evidence using repurchase price data. J Financ Econ 115(2):261–282CrossRefGoogle Scholar
  24. Dittmar AK, Thakor AV (2007) Why do firms issue equity? J Financ 62 (1):1–54CrossRefGoogle Scholar
  25. Dong M, Loncarski I, Horst JR, Veld C (2012) What drives security issuance decisions: Market timing, pecking order, or both? Financ Manag 41(3):637–663CrossRefGoogle Scholar
  26. Du Q, Shen R (2018) Peer performance and earnings management. Journal of Banking & Finance (Forthcoming)Google Scholar
  27. DuCharme LL, Malatesta PH, Sefcik SE (2004) Earnings management, stock issues, and shareholder lawsuits. J Financ Econ 71(1):27–49CrossRefGoogle Scholar
  28. Eckbo B, Masulis RW, Norli Ø (2000) Seasoned public offerings:, Resolution of the ‘new issues puzzle’. J Financ Econ 56(2):251–291CrossRefGoogle Scholar
  29. Eckbo B, Masulis RW, Norli Ø (2007) Security offerings. In: Eckbo B (ed) Handbook of Corporate Finance: Empirical Corporate Finance, Handbooks in Finance, vol 1, Elsevier, Chapter 6, pp 233– 373Google Scholar
  30. Edelen RM, Ince OS, Kadlec GB (2014) Post-SEO performance and institutional investors. Unpublished working paper, Virginia TechGoogle Scholar
  31. Elton EJ, Gruber MJ, Gultekin MN (1984) Professional expectations: Accuracy and diagnosis of errors. J Financ Quant Anal 19(4):351–363CrossRefGoogle Scholar
  32. Fama EF (1998) Market efficiency, long-term returns, and behavioral finance. J Financ Econ 49(3):283–306CrossRefGoogle Scholar
  33. Fu F (2010) Overinvestment and the operating performance of SEO firms. Financ Manag 39(1):249–272CrossRefGoogle Scholar
  34. Fu F, Haung S (2016) The persistence of long-run abnormal stock returns following stock repurchases and offerings. Manag Sci 62(4):964–984CrossRefGoogle Scholar
  35. Gong G, Louis H, Sun AX (2008) Earnings management and firm performance following open-market repurchases. J Financ 63(2):947–986CrossRefGoogle Scholar
  36. Grullon G, Michaely R (2004) The information content of share repurchase programs. J Financ 59(2):651–680CrossRefGoogle Scholar
  37. Healy PM, Palepu KG (2001) Information asymmetry, corporate disclosure, and the capital markets: a review of the empirical disclosure literature. J Account Econ 31(1):405–440CrossRefGoogle Scholar
  38. Hong H, Kubik JD (2003) Analyzing the analysts: career concerns and biased earnings forecasts. J Financ 58(1):313–351CrossRefGoogle Scholar
  39. Hovakimian A, Opler T, Titman S (2001) The debt-equity choice. J Financ Quant Anal 36(1):1–24CrossRefGoogle Scholar
  40. Ikenberry DL, Lakonishok J, Vermaelen T (1995) Market underreaction to open market share repurchases. J Financ Econ 39(2):181–208CrossRefGoogle Scholar
  41. Ikenberry DL, Rankine G, Stice EK (1996) What do stock splits really signal? J Financ Quant Anal 31(3):357–375CrossRefGoogle Scholar
  42. Jagannathan M, Stephens CP (2003) Motives for multiple open-market repurchase programs. Financ Manag 32(2):71–91CrossRefGoogle Scholar
  43. Jegadeesh N (2000) Long-term performance of seasoned equity offerings: benchmark errors and biases in expectations. Financ Manag 29(3):5–30CrossRefGoogle Scholar
  44. Jenter D (2005) Market timing and managerial portfolio decisions. J Financ 60(4):1903–1949CrossRefGoogle Scholar
  45. Jo H, Kim Y (2007) Disclosure frequency and earnings management. J Financ Econ 84(2):561–590CrossRefGoogle Scholar
  46. Jung K, Kim Y, Stulz RM (1996) Timing, investment opportunities, managerial discretion, and the security issue decision. J Financ Econ 42(2):159–186CrossRefGoogle Scholar
  47. Korajczyk RA, Lucas DJ, McDonald RL (1991) The effect of information releases on the pricing and timing of equity issues. The Review of Financial Studies 4(4):685–708CrossRefGoogle Scholar
  48. Kothari SP, Warner JB (1997) Measuring long-horizon security price performance. J Financ Econ 43(3):301–339CrossRefGoogle Scholar
  49. Kothari SP, Warner JB (2007) Econometrics of event studies. In: Eckbo B (ed) Handbook of Corporate Finance: Empirical Corporate Finance, Handbooks in Finance, vol 1, Elsevier, chapter 1, pp 3–36Google Scholar
  50. Kothari SP, Mizik N, Roychowdhury S (2016) Managing for the moment: the role of earnings management via real activities versus accruals in SEO valuation. Account Rev 91(2):559–586CrossRefGoogle Scholar
  51. Krishnaswami S, Subramaniam V (1999) Information asymmetry, valuation, and the corporate spin-off decision. J Financ Econ 53(1):73–112CrossRefGoogle Scholar
  52. Lakonishok J, Vermaelen T (1990) Anomalous price behavior around repurchase tender offers. J Financ 45(2):455–477CrossRefGoogle Scholar
  53. Lesmond DA, Ogden JP, Trzcinka CA (1999) A new estimate of transaction costs. The Review of Financial Studies 12(5):1113–1141CrossRefGoogle Scholar
  54. Li EXN, Livdan D, Zhang L (2009) Anomalies. The Review of Financial Studies 22(11):4301–4334CrossRefGoogle Scholar
  55. Lie E (2005) Operating performance following open market share repurchase announcements. J Account Econ 39(3):411–436CrossRefGoogle Scholar
  56. Lim TM (2001) Rationality and analysts’ forecast bias. J Financ 56(1):369–385CrossRefGoogle Scholar
  57. Loughran T, Ritter JR (1995) The new issues puzzle. J Financ 50(1):23–51CrossRefGoogle Scholar
  58. Loughran T, Ritter JR (1997) The operating performance of firms conducting seasoned equity offerings. J Financ 52(5):1823–1850CrossRefGoogle Scholar
  59. Loughran T, Ritter JR, Rydqvist K (1994) Initial public offerings: international insights. Pac Basin Financ J 2(2):165–199CrossRefGoogle Scholar
  60. Lyon JD, Barber BM, Tsai C (1999) Improved methods for tests of long-run abnormal stock returns. J Financ 54(1):165–201CrossRefGoogle Scholar
  61. Marsh P (1982) The choice between equity and debt: an empirical study. J Financ 37(1):121–144CrossRefGoogle Scholar
  62. Michaely R, Thaler RH, Womack KL (1995) Price reactions to dividend initiations and omissions: Overreaction or drift? J Financ 50(2):573–608CrossRefGoogle Scholar
  63. Miller MH, Rock K (1985) Dividend policy under asymmetric information. J Financ 40(4):1031–1051CrossRefGoogle Scholar
  64. Myers SC, Majluf NS (1984) Corporate financing and investment decisions when firms have information that investors do not have. J Financ Econ 13(2):187–221CrossRefGoogle Scholar
  65. Pagano M, Panetta F, Zingales L (1998) Why do companies go public? an empirical analysis. J Financ 53(1):27–64CrossRefGoogle Scholar
  66. Peyer UC, Vermaelen T (2009) The nature and persistence of buyback anomalies. The Review of Financial Studies 22(4):1693–1745CrossRefGoogle Scholar
  67. Rajan RG, Servaes H (1997) Analyst following of initial public offerings. J Financ 52(2):507–529CrossRefGoogle Scholar
  68. Rangan S (1998) Earnings management and the performance of seasoned equity offerings. J Financ Econ 50(1):101–122CrossRefGoogle Scholar
  69. Ritter JR (1991) The long-run performance of initial public offerings. J Financ 46(1):3–27CrossRefGoogle Scholar
  70. Roll R (1984) A simple implicit measure of the effective bid-ask spread in an efficient market. J Financ 39(4):1127–1139CrossRefGoogle Scholar
  71. Spiess D, Affleck-Graves J (1995) Underperformance in long-run stock returns following seasoned equity offerings. J Financ Econ 38(3):243–267CrossRefGoogle Scholar
  72. Stigler GJ (1964) Public regulation of the securities markets. J Bus 37(2):117–142CrossRefGoogle Scholar
  73. Taggart RA Jr (1977) A model of corporate financing decisions. J Financ 32 (5):1467–1484CrossRefGoogle Scholar
  74. Tarsalewska M (2018) Buyouts under the threat of preemption. Journal of Banking & Finance 89:39–58CrossRefGoogle Scholar
  75. Teoh SH, Welch I, Wong TJ (1998a) Earnings management and the long-run market performance of initial public offerings. J Financ 53(6):1935–1974CrossRefGoogle Scholar
  76. Teoh SH, Welch I, Wong TJ (1998b) Earnings management and the underperformance of seasoned equity offerings. J Financ Econ 50(1):63–99CrossRefGoogle Scholar
  77. Venkatesh P, Chiang R (1986) Information asymmetry and the dealer’s bid-ask spread: a case study of earnings and dividend announcements. J Financ 41 (5):1089–1102CrossRefGoogle Scholar
  78. Vermaelen T (1981) Common stock repurchases and market signalling: an empirical study. J Financ Econ 9(2):139–183CrossRefGoogle Scholar

Copyright information

© Academy of Economics and Finance 2019

Authors and Affiliations

  1. 1.Finance Department, Daniels College of BusinessUniversity of DenverDenverUSA
  2. 2.Finance Department, Pamplin College of BusinessVirginia TechBlacksburgUSA

Personalised recommendations