2. Literature review
2.1 Conference calls background and related literature
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立 政 治 大 學
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2. Literature review
2.1 Conference calls background and related literature
2.1.1 Conference calls as a voluntary disclosure mechanism
Corporate information can be disclosed through different ways, including voluntary disclosure and mandatory disclosure. Mandatory disclosures, such as yearly financial reporting or other regulatory filings, are seen as the minimum requirement for listed companies and contain mostly financial and backward-looking information. Thus, mandatory disclosures may not capture all the relevant information about the firm’s performance and future perspective. On the other hand, voluntary disclosures, such as management forecasts, conference calls, press release, internet sites, and other corporate reports, tend to be a better channel for corporate management to communicate firm performance and forward-looking information to the public.
In the perspective of disclosure theory, firms that rely more on external financing have the incentives to disclose reliable information voluntarily (e.g., Verrecchia, 1983) and these voluntary disclosures help mitigate the information asymmetry between the firm management and outside investors and reduce a firm’s cost of capital. Healy and Palepu (1993) argue that firms whose stock is undervalued by public capital markets have incentives to expand disclosures to communicate firm value to the market. Frankel et al. (1995) find a positive relation between firms’ tendencies to access capital market and to disclose earning forecast. They indicate that financing firms have greater incentives to voluntarily disclose information than non-financing firms, suggesting that market force provide incentives for more disclosure.
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Diamond and Verrecchia (1991) show that revealing public information to reduce information asymmetry can reduce a firm’s cost of capital by attracting increased demand from large investors due to increased liquidity of its securities. Healy and Palepu (2000) document three types of capital market effect of voluntary disclosure:
improved liquidity for firms’ stock in the capital market, reduction in firms’ cost of capital, and increased following by financial analysts. Francis et al. (2005) indicate that, by using a sample from 34 countries other than U.S., firms in industries with greater external financing needs have higher voluntary disclosure levels and that an expanded disclosure policy for these firms leads to a lower cost of both debt and equity capital. Moreover, they find that voluntary disclosure incentives operate independently of county-level factors, suggesting that the effectiveness of voluntary disclosure in gaining access to lower cost external financing around the world.
Francis et al. (2008) find a significant negative relation between voluntary disclosure and cost of capital. The findings of these studies support the idea that voluntary disclosure help reduce information asymmetry and firm’s cost of external financing.
Among all types of voluntary disclosure, conference call has the interactive characteristic that makes communication even more effective and efficiency than other voluntary disclosure. Thus, this study focuses on using conference calls as a voluntary disclosure mechanism and examines its relationship with interlocked boards.
2.1.2 The content of conference calls
In recent years, conference calls have become a very common voluntary disclosure medium to communicate relevant corporate information to the public. A conference call typically consists two sections: presentation by management and question and answer between the audience and the management (Frankel et al. 1999;
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such as manager’s interpretation of firm performance and additional voluntary disclosure. In the question and answer section, also called “discussion” section (Matsumoto et al., 2011), participants have the opportunities either to ask questions about the firm or question information disclosed by the managers in the presentation section. This discussion section is a forum for analysts or investors who participate in the call to communicate with the firm managers face-to-face. Due to this interactive characteristic, conference calls, comparing to other types of voluntary disclosure, provide an ideal channel for inside managers to convey corporate information to the public and for outside investors and analysts to request information they need (Hollander et al. 2010). Matsumoto et al. (2011) find that both presentation and discussion sections provide incremental information, but the discussion sections have greater information content than presentations, suggesting that bigger benefit of conference calls comes from analysts’ involvement in the discussion sections. They also find that managers provide more information during the presentation when firm performance is poor, but the discussion session is relatively more informative than the presentation under these circumstances1. Their research findings indicate that, comparing to issuing an earnings press release, the primary benefits of hosting a conference call is due to the discussion section with analysts.Some recent studies investigate the linguistic information content in conference calls. Frankel et al. (2010) find a positive relation between conference call linguistic
1 Matsumoto et al. (2011) indicate that managers are either not able to anticipate the information needs of analysts in the case of bad performance or unwilling to voluntarily disclose poor performance information in the presentation session.
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vocal cues contain useful information about a firm’s fundamentals, incremental to both quantitative earnings information and qualitative soft information conveyed by linguistic content. By using the computer aided content analysis to examine the incremental informativeness of quarterly conference calls, Price et al. (2011) find that linguistic tone in conference calls is a significant predictor of abnormal returns and trading volume.Some research focuses on other perspectives of call content. For example, Hollander et al. (2010) find strong support to the assumption that investors interpret silence negatively. In other words, investors equate no news with bad news. Chin et al. (2007) demonstrate that, by using the data in Taiwan, firms with more innovative firms are more likely to discuss innovative activities during conference calls.2
2.1.3 The economic consequences of conference calls
The argument that conference calls reduce the information asymmetry between the inside mangers and outside investors, and increase the information available in the capital market has been demonstrated in prior studies. Tasker (1998) suggests that quarterly conference calls resolve the information asymmetry problem between manager and outside shareholders. Frankel et al. (1999) find evidence that share prices are unusually volatile and the average trade size is higher during conference calls. These results suggest that material information is released in conference calls
2 See Chin et al. (2007) footnote 1:” Taiwan’s national R&D expenditures relative to gross domestic product rank ninth in the world. (See China Times, the best selling newspaper in Taiwan, August 24, 2002). Taiwan’s outbound patent filings in the U.S. rank fourth in 2000, following only the U.S., Japan, and German. These statistics show that innovation activities in Taiwan are very frequent compared to the world level.”
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informative corporate disclosures. More specifically, Brown et al. (2004) indicate that information asymmetry is negatively associated with conference call activity.Based on the above viewpoints, informative disclosure in conference calls could lead to economic consequences. Bowen et al. (2002) provide evidence that the managers disclose more information during the conference calls quarters and that this information difference leads to the decrease in analysts’ forecast error and dispersion and the effect will persist through the next quarter’s earnings announcement.
Additionally, analysts with weaker prior forecasting performance benefit more from conference calls than do analysts with stronger forecasting performance. Consistent with the intention of Bowen et al. (2002), Kimbrough (2005) finds evidence that conference calls add to the total amount of information that analysts use about forthcoming earnings. Kimbrough (2005) further demonstrates that the initiation of conference calls significantly decreases the post-earning announcement drift and the proportion of delayed market reaction to the earning’s announcements, implying that the conference calls result in more timely analyst and investor responses to the future implications of current earnings surprises. Chin et al. (2007) find that the more R&D-related information disclosed in a conference call, the more likely the call is to affect the stock market returns of the firm’s stock. In the case of M&A transaction, Kimbrough and Louis (2011) examine the relation between management’s decision to hold a conference call at the merger announcement and the initial market reaction to the announcement. They find that bidders that hold conference calls at merger announcements experience substantially higher announcement returns than they would have experienced otherwise. Kimbrough and Louis (2011) also indicate that the superior announcement reaction is related to the fact that conference calls provide
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a greater volume of information and place greater emphasis on forward-looking details. Moreover, there is no evidence that this superior announcement subsequently reverses.
2.1.4 Characteristic of conference calls firms
Many research studies have tried to identify the relation between firm characteristics and its holding of conference calls. Tasker (1998) shows that firms with less informative financial statement are more likely to host a conference call than are firms with more informative statements. These firms use conference calls as a voluntary disclosure channel to better communicate their performance and prospects to analysts and large outside shareholders. Frankel et al. (1999) state that firms that hold conference calls tend to be relatively larger, more profitable, more heavily followed by analysts and access the capital markets more often than other firms.
These firms are more likely to be in high-tech industries, to grow more rapidly, and to have higher market-to-book ratio than other firms.3 Bushee et al. (2003) indicate that firms providing open conference calls to meet the demand of nonprofessional shareholders and these firms tend to be in high-tech industries and have greater number of stockholders, lower institutional ownership, lower analyst following, higher average share turnover and greater revenue volatility than firms providing calls to a more restricted audience.4 Firms with higher recorded intangible assets are less likely to provide open calls because these firms disclose more complex financial information to more sophisticated users.
Chin et al. (2007) find that cumulative abnormal returns that arise from conference calls are positively associated with the level of and the changes in
3 See Frankel et al. (1999) for detailed discussions.
4 Bushee et al. (2003) define open conference calls as those have availability and timing generally well publicized.
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innovation investments, implying that firms with more innovative activities are more likely to hold conference calls, consisting with prior research that shows high-growth firms are more likely to hold conference calls and hold them more frequently. Chin et al. (2008) indicate that corporate governance mechanisms under concentrated ownership structure have an impact on firms’ decisions to hold conference calls.
The likelihood and frequency to hold conference calls are higher for firms with less control divergence and firms with second largest shareholders but lower for firms with higher percentage of controlling owners’ seats on the board.5 Kimbrough and Louis (2011) find evidence that, in the merger and acquisition transactions, incentives are particularly strong for economically significant deals where the intensity of investor demand for supplemental information is pronounced. Additionally, stock-for-stock mergers are more likely to hold conference calls because the cost of a stock-based merger and the likelihood of its completion are directly tied to the post-announcement value of the bidder’s stock.6 Based on the above studies, firms are more likely to hold conference calls generally are larger, more profitable, more heavily followed by analysts and more likely to be in high-tech industries. In addition, these firms are those with more informative financial statements, higher market-to-book ratio, greater number of stockholders, lower institutional ownership, higher average share turnover, greater revenue volatility, more innovative activities, less control divergence. Furthermore, firms access more to capital markets, grow more rapidly and engaged in stock-for-stock M&A transactions are more likely to hold conference calls.
5 Chin, Lin and Liang (2008) define second largest shareholders as shareholder with the standing to sue under Taiwan Corporate Law 214.
6 Kimbrough and Louis (2011) indicate that all bidders have incentives to effectively communicate the rational for their proposed transaction due to the well-documented cost of capital benefits of forthcoming disclosure. The incentives are particularly strong for economically significant deals and stock-based mergers.
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accounting recognition of innovation activities reduces the financial statement informativeness. They state that, under this circumstance, managers in Taiwan have incentives to voluntarily disclose private information to better communicate firm value to investors. Their research indicates that the growth of conference calls from 1997 to 2002 reflect a tendency to adopt conference calls as effective disclosure practices.Turing to the regulatory perspective, the information released in conference calls in Taiwan is regulated by the Taiwan Stock Exchange (TWSE, hereafter) Procedures for Verification and Disclosure of Material Information of Companies with Listed Securities and Gre Tai Securities Market (GTSM, hereafter) Procedures for Verification and Disclosure of Material Information of Companies with GTSM Listed Securities7, from 1992 and 1994 respectively. According to these two procedures, the disclosures date, time, venue, or financial and business related information that are not yet been entered into Market Observation Post System8 are deemed as material information for listed companies on TWSE and GTSM. Additionally, with respect to investor conferences and press conferences, the companies should comply with particulars including: (1) Firms shall make applications to TWSE or GTSM if they want to hold or attend a conference call during the trading hours; (2) Information about the date, time, venue and relevant information of the conference call shall be published at least one day prior to the date of conference call; (3) The press release
7 Gre Tai Securities Market is the Over-the-Counter (OTC) market in Taiwan.
8 Market Observation System is a website, http://mops.twse.com.tw/mops/web/index, is constructed by TWSE.
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and financial and business information shall be input to Market Observation Post System before the call or at least during the non-trading hours before the conference call on the day of the call; (4) The content of conference call shall not exceed those entered to Market Observation Post System or reported to authorities. We can imply from these regulations that the Taiwanese authorities regard the information release in conference calls as material information and shall be regulated carefully.