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Jan 28, 2012

IR Papers: Price and promises

A roundup of academic research from the world of IR studies

Go ahead: make promises in your annual report; investors will assume you’re telling no lies. They will also reward you by paying up for your company’s stock.

‘Markets view firms that talk less about the future as being riskier,’ says Rasa Karapandza, assistant professor of finance at the European Business School in Wiesbaden. ‘Those that promise more are seen as less risky and so can pay lower returns to investors.’    

Using one of the world’s largest supercomputers, Karapandza analyzed more than 35,000 annual reports from 1993 to 2008. Firms that least used the future tense (will, shall, going to) generated positive annual returns of up to 6 percent annually. Companies making many promises, on the other hand, offer no such returns.

‘The evidence supports a risk-based rather than a mispricing-based explanation for the anomalous returns,’ says Karapandza. ‘In other words, promises are too costly not to carry valuable information.’

Curiously, Karapandza’s corporate results do not mirror similar textual scrutiny of promises made in the political sphere. Analysis of presidential debates shows the candidate making the fewest promises always wins the election.

‘The only exception is Obama,’ says Karapandza. ‘Politicians shouldn’t promise; they usually get punished. But political talk is cheap. Corporate promises, on the other hand, have a systematic effect on long-term corporate returns.’

For what it’s worth

It pays to invest in IR. A study of the stock price performance of 146 US firms that appointed an IR officer or engaged an external adviser for the first time reveals an average 1.67 percent abnormal return around the announcement day.

‘Such announcements signal changes in management’s commitment to investor rights and imply improvements in transparency and governance,’ suggests study co-author Adamos Vlittis, assistant professor of accounting at the University of Nicosia.

‘Firms with lower valuation, higher volatility and large CEO holdings are among those that most benefit from investment in IR.’

World o' research

-Do you often find yourself announcing good corporate news just before your AGM? You’re not alone. A University of Chicago study, using pre-meeting cumulative annual returns as evidence, finds the two strongly connected.

-The Enlightenment marches on with the empirical news that solar flares have no effect on stock market behavior. The hypothesis melted in the crucible of Moscow State University research.

-JPMorgan Chase earned about $900 mn pretax from Bernie Madoff’s stock market Ponzi scheme deposits at the bank from 1986 to 2008, according to a University of Louisiana estimate.

-Good IR websites translate into superior company value (as measured by Tobin’s Q) according to a study of almost 500 Bombay Stock Exchange firms. Small and large caps benefit most from best practice IR web pages, especially those in oil & gas and healthcare.