Abstract
This study examines the reaction of REIT prices to unexpected FFO announcements. Using both the traditionally constrained models and an unconstrained model, we find that the market reacts significantly when REITs announce unexpected FFO with a stronger response for positive than negative surprises. Also, we find that FFO explains significantly more variance in abnormal returns than net income supporting our conjecture that FFO, being more accurately reflective of cash flow, provides more useful information to investors than traditional GAAP measures. Our results are robust to different specifications. The results also suggest that the traditional approaches have been misspecified.
Similar content being viewed by others
Notes
FFO is a non-GAAP performance metric introduced by the National Association of Real Estate Investment Trusts (NAREIT) in 1991.
In 2003, the SEC introduced Regulation G, which requires firms to show a reconciliation of each non-GAAP financial measure to the most directly comparable GAAP measure.
References
Amihud, Y., & Li, K. (2006). The declining information content of dividend announcements and the effects of institutional holdings. Journal of Financial and Quantitative Analysis, 41(3), 637–60.
Baik, B., Billings, B. K., & Morton, R. M. (2008). Reliability and transparency of non-GAAP disclosures by Real Estate Investment Trusts (REITs). Accounting Review, 83(2), 271–301.
Ball, R., & Brown, P. (1968). An empirical evaluation of accounting income numbers. Journal of Accounting Research, 6(2), 159–78.
Bartov, E., Givoly, D., & Hayn, C. (2002). The rewards to meeting or beating earnings expectations. Journal of Accounting and Economics, 33, 173–204.
Basu, S. (1997). The conservatism principle and the asymmetric timeliness of earnings. Journal of Accounting and Economics, 24, 3–37.
Beaver, W. H. (1968). The information content of annual earnings announcements. Journal of Accounting Research, 6, 67–92.
Brown, L. D. (2001). A temporal analysis of earnings surprises: profits versus losses. Journal of Accounting Research, 39(2), 221–41.
Cheng, A. C. S., Hopwood, W. S., & McKeown, J. C. (1992). Non-linearity and specification problems in unexpected earnings response regression model. The Accounting Review, 67(3), 579–98.
Clarke, K. A. (2007). A simple distribution-free test for nonnested model selection. Political Analysis. doi:1093/pan/mpm004.
Cohen, J. (1988). Statistical power analysis for the behavioral sciences (2nd ed.). Orlando: Academic.
Cohen, J., Cohen, P., West, S. G., & Aiken, L. S. (2003). Applied multiple regression/Correlation analysis for the behavioral sciences. New Jersey: Lawrence Erlbaum Associates.
Conrad, J., Cornell, B., & Landsman, W. R. (2002). When is bad news really bad news? Journal of Finance, 57(6), 2507–532.
Cornell, B., & Landsman, W. R. (1989). Security price response to quarterly earnings announcements and analysts’ forecast revisions. The Accounting Review, 64(4), 680–92.
Cronbach, L. J. (1958). Proposals leading to analytic treatment of social perception scores. In R. Tagiuri & Petrullo (Eds.), Person perception and interpersonal behavior (pp. 353–79). Stanford: Stanford University Press.
Datta, S., & Dhillon, U. S. (1993). Bond and stock market response to unexpected earnings announcements. The Journal of Financial and Quantitative Analysis, 28(4), 565–577.
Devos, E., Ong, S. E., & Spieler, A. C. (2007). Analyst activity and firm value: evidence from the REIT sector. Journal of Real Estate Finance and Economics, 35(3), 333–56.
Downs, D. H., & Guner, Z. N. (1999). Is the Information Deficiency in real estate evident in public trading? Real Estate Economics, 28, 517–41.
Downs, D. H., & Guner, Z. N. (2006). On the quality of FFO forecasts. Journal of Real Estate Research, 28(3), 259–74.
Edwards, J. R. (2001). Ten difference score myths. Organizational Research Methods, 4, 256–87.
Edwards, J. R. (2002). Alternatives to difference scores: Polynomial regression and response surface methodology. In Drasgow & Schimitt (Eds). Measuring and analyzing behaviour in organizations: Advances in measurement and data analysis (pp 350–99)
Fields, T. D., Rangan, S., & Thiagarajan, S. R. (1998). An empirical evaluation of the usefulness of non-GAAP accounting measures in the real estate investment industry. Review of Accounting Studies, 3, 103–30.
Fox, J. (1991). Regression diagnostics. Newbury Park: Sage.
Freeman, R. N., & Tse, S. Y. (1992). A nonlinear model of security price responses to unexpected earnings. Journal of Accounting Research, 30(2), 185–209.
Gore, R., & Stott, D. M. (1998). Toward a more informative measure of operating performance in the REIT industry: net income vs. funds from operations. Accounting Horizons, 12(4), 323–39.
Higgins, E. J., Ott, R. L., & Van Ness, R. A. (2006). The information content of the 1999 announcement of funds from operations changes for real estate investment trusts. Journal of Real Estate Research, 28(3), 241–55.
Lambert, L. S., Edwards, J. R., & Cable, D. M. (2003). Breach and fulfillment of the psychological contract: a comparison of traditional and expanded views. Personnel Psychology, 56, 895–934.
Lev, B. (1989). On the usefulness of earnings and earnings research: lessons and directions from two decades of empirical research. Journal of Accounting Research, 27, 153–92.
Lopez, T. J., & Rees, L. (2002). The effect of beating and missing analysts’ forecasts on the information content of unexpected earnings. Journal of Accounting, Auditing and Finance, 17(2), 155–84.
Neter, J., Kutner, M. H., Nachtsheim, C. J., & Wasserman, W. (1996). Applied Linear Regression Models (3rd ed.). Chicago: Irwin.
Skinner, D. J., & Sloan, R. G. (2002). Earnings surprises, growth expectations, and stock returns or don’t let an earnings torpedo sink your portfolio. Review of Accounting Studies, 7, 289–312.
Stine, R. (1989). An introduction to bootstrap methods. Sociological Methods ad Research, 18, 243–91.
Stunda, R. A., & Typpo, E. (2004). The relevance of earnings and funds flow from operations in the presence of transitory earnings. Journal of Real Estate Portfolio Management, 10(1), 37–45.
Vincent, L. (1999). The information content of funds from operations (FFO) for real estate investment trusts (REITs). Journal of Accounting and Economics, 26(1–3), 69–104.
Vuong, Q. H. (1989). Likelihood ratio test for model selection and non-nested hypotheses. Econometrica, 57, 307–333.
Wang, K., Erickson, J., & Gau, G. W. (1993). Dividend policies and dividend announcement effects for real estate investment trusts. Real Estate Economics, 21(2), 185–201.
Wang, K., Erickson, J., Gau, G., & Chan, S. H. (1995). Market microstructure and real estate returns. Real Estate Economics, 23(1), 85–100.
Acknowledgements
The authors wish to thank Professor Geoffrey Turnbull, Professor Kevin Clarke and the anonymous referees to this journal who have greatly contributed to this paper.
Author information
Authors and Affiliations
Corresponding author
Rights and permissions
About this article
Cite this article
Gyamfi-Yeboah, F., Ziobrowski, A.J. & Lambert, L.S. Reits’ Price Reaction to Unexpected FFO Announcements. J Real Estate Finan Econ 45, 622–644 (2012). https://doi.org/10.1007/s11146-010-9291-y
Published:
Issue Date:
DOI: https://doi.org/10.1007/s11146-010-9291-y