Mohan Venkatachalam

Institutional Ownership and the Extent to which Stock Prices Reflect Future Earnings

Articles in the financial press suggest that institutional investors are overly focused on current profitability, which suggests that as institutional ownership increases, stock prices reflect less current period information that is predictive of future period earnings. On the other hand, institutional investors are often characterized in academic research as sophisticated investors and sophisticated investors should be better able to use current-period information to predict future earnings compared with other owners. According to this characterization, as institutional ownership increases, stock prices should reflect more current-period information that is predictive of future period earnings. Consistent with this latter view, we find that the extent to which stock prices lead earnings is positively related to the percentage of institutional ownership. This result holds after controlling for various factors that affect the relation between price and earnings. It also holds when we control for endogenous portfolio choices of institutions (e.g., institutional investors may be attracted to firms in richer information environments where stock prices tend to lead earnings). Further, a regression of stock returns on order backlog, conditional on the percentage of institutional ownership, indicates that institutional owners place more weight on order backlog compared with other owners. This result is consistent with institutional owners using non-earnings information to predict future earnings. It also explains, in part, why prices lead earnings to a greater extent when there is a higher concentration of institutional owners.

Accounting Discretion, Corporate Governance, and Firm Performance*

Aromatic compounds in small amounts function as antifoulant additives in pyrolysis furnaces which are subjected to elevated temperatures from about 500 DEG C. to about 1200 DEG C. when thermally convening hydrocarbons to ethylene as well as other useful products. These furnaces produce material that deposits and accumulates upon furnace surfaces including furnace radiant coils and transfer line exchangers. The present antifoulant additives inhibit and suppress the formation and deposition of material on furnace surfaces. The present invention is a method for inhibiting the formation of coke on the surfaces of a radiant heating section of a pyrolysis furnace and the surfaces immediately downstream of such section in contact with a hydrocarbon feedstock which comprises decoking the pyrolysis furnace, and prior to processing the hydrocarbon feedstock, adding an inhibiting compound to the pyrolysis furnace. The inhibiting compound is selected from the group consisting of substituted benzenes, substituted naphthalenes, substituted anthracenes, substituted phenanthrenes, and mixtures thereof wherein the inhibiting compound contains at least one substitutent having at least 2 carbon atoms. A thin catalytically inactive coke layer is formed on the surfaces of the pyrolysis furnace. The hydrocarbon feedstock is then fed into the furnace, whereby the surfaces of the furnace are inhibited against the formation of a catalytically active coke during the processing of the hydrocarbon feedstock.

Value-Glamour and Accruals Mispricing: One Anomaly or Two?

A feed and takeoff assembly particularly adapted for use in connection with a printing press to automatically transfer generally flat stock from a first position to a print position and to a delivery position, having a frame, a transfer carriage mounted for movement along the frame, a single elongated feed gripper mounted near one end of the transfer carriage and disposed transversely to the path of travel of the carriage along the frame, and a low profile delivery gripper mounted near the opposite end of the transfer carriage for movement therewith along the frame. The single elongated feed gripper is capable of repeated precisely registered movement along the frame through a spring-biased cam-operated guide means. The delivery gripper acts to remove an entire sheet of printed stock at a desired time by a cam-operated opening and closing of pivotally mounted upper and lower jaws. The operation of the transfer carriage and associated feed gripper and delivery gripper relative to the operation of the printing press is timed by a plurality of control cams which provide for feeding and delivery of stock and return of the carriage at optimum speeds without errors in registration.

The Value Relevance of Network Advantages: The Case of E-Commerce Firms

We show that network advantages constitute an important intangible asset that goes unrecognized in the financial statements. For a sample of e–commerce firms, we find that network advantages created by Web site traffic have substantial explanatory power for stock prices over and above traditional summary accounting measures such as earnings and book value of equity. Also, network advantages are positively associated with one–year–ahead and two–year–ahead earnings forecasts provided by equity analysts. When we allow network advantages to be endogenously determined by managerial actions, we find that at least part of the value relevance of network effects stems from the presence of affiliate referral programs and higher media visibility.

Accelerated Vesting of Employee Stock Options in Anticipation of FAS 123-R*

In December 2004, the Financial Accounting Standards Board (FASB) mandated the use of a fair value based measurement attribute to value employee stock options (ESOs) via FAS 123-R. In anticipation of FAS 123-R, between March 2004 and November 2005, several firms accelerated the vesting of ESOs to avoid recognizing existing unvested ESO grants at fair value in future financial statements. We find that the likelihood of accelerated vesting is higher if (i) acceleration has a greater effect on future ESO compensation expense, especially related to underwater options; and (ii) firms suffer greater agency problems, proxied by fewer block-holders, lower pension fund ownership and top five officers holding a greater share of ESOs. We also find a negative stock price reaction around the announcement of the acceleration decision, especially for firms with greater agency problems. Furthermore, stock returns are significantly negative before the new vesting dates and positive afterward, suggesting that vesting dates could have been backdated.

Are Sin Stocks Paying the Price for Accounting Sins

Recent empirical evidence suggests that sin stocks—publicly traded stocks in the gaming, tobacco, alcohol, and adult entertainment industries—are neglected by stock market participants because of social norms, regulatory scrutiny, and litigation risk. Consequently, these firms experience low institutional ownership, low analyst following, and higher expected returns. This paper examines whether higher information risk in the form of poor financial reporting quality offers an explanation for the higher expected returns of sin firms. Inconsistent with this explanation, we find that the financial reporting quality of sin firms is superior relative to a variety of control groups along two dimensions: predictability of earnings for future cash flows and timely loss recognition. These results imply that, despite superior returns and higher financial reporting quality, investors are willing to neglect sin stocks and instead bear a financial cost in order to comply with societal norms and reflect non-financial tastes in their portfolio.

Differential Pricing of Components of Bank Loan Fair Values

This paper examines the capital market pricing implications of nondiscretionary, discretionary, and noise components of loan fair values for a sample of commercial banks. We use a model to partition loan fair values into discretionary and nondiscretionary components using proxies for discretion and nondiscretion. The residual from the model captures the noise component. We hypothesize that the nondiscretionary component is priced on a dollar-for-dollar basis and the residual (noise) component is not priced. The pricing coefficient on the discretionary component is predicted to be positive (negative) depending on whether the motivation for discretion is signaling (opportunism). We find evidence consistent with the hypotheses, implying that the relevance and reliability of loan fair values differs across the three components.

Earnings Announcements are Full of Surprises

We study the drift in returns of portfolios formed on the basis of the stock price reaction around earnings announcements. The Earnings Announcement Return (EAR) captures the market reaction to unexpected information contained in the companys earnings release. Besides the actual earnings news, this includes unexpected information about sales, margins, investment, and other less tangible information communicated round the earnings announcement. A strategy that buys and sells companies sorted on EAR produces an average abnormal return of 7.55% per year, 1.3%more than a strategy based on the traditional measure of earnings surprise, SUE. The post earnings announcement drift for EAR strategy is stronger than post earnings announcement drift for SUE. More importantly, unlike SUE, the EAR strategy returns do not show a reversal after 3 quarters. The EAR and SUE strategies appear to be independent of each other. A strategy that exploits both pieces of information generates abnormal returns of about 12.5% on an annual basis.

Financial Reporting Quality and Idiosyncratic Return Volatility Over the Last Four Decades

Campbell, Lettau, Malkiel and Xu (2001) show that stock returns of individual firms have become more volatile in the U.S. since 1960. We hypothesize and find that deteriorating earnings quality is associated with higher idiosyncratic return volatility over the period 1962-2001. These results are robust to controlling for (i) inter-temporal changes in the disclosure of value-relevant earnings information, sophistication of investors and for the possibility that earnings quality can be informative about future cash flows; (ii) stock return performance, cash flow operating performance, cash flow variability, growth, leverage and firm size; and (iii) accounting for new listings, high technology firms and firm-years with losses, mergers and acquisitions and financial distress.

Vocal Fry May Undermine the Success of Young Women in the Labor Market

Vocal fry is speech that is low pitched and creaky sounding, and is increasingly common among young American females. Some argue that vocal fry enhances speaker labor market perceptions while others argue that vocal fry is perceived negatively and can damage job prospects. In a large national sample of American adults we find that vocal fry is interpreted negatively. Relative to a normal speaking voice, young adult female voices exhibiting vocal fry are perceived as less competent, less educated, less trustworthy, less attractive, and less hirable. The negative perceptions of vocal fry are stronger for female voices relative to male voices. These results suggest that young American females should avoid using vocal fry speech in order to maximize labor market opportunities.