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Convertible call policies
Journal
of Financial
Economics
19 (1987) 91-108.
CONVERTIBLE
North-Holland
CALL POLICIES*
An Empirical Analysis of an Information-Signaling
Aharon
Hypothesis
R. OFER
Northwestern Uniuersi
Ashok NATARAJAN ?lorthwestern Received
November
Unioersgv. Evanston. IL 60208. USA 1985, final version received December
1986
This paper tests an information-signaling hypothesis as a potential explanation for corporate convertible bond call policies and for the negative share price reaction to the announcement of the calls. We test this hypothesis by trying to ascertain whether the information signaled is realized. Our results show an unexpected decline in the firm’s performance.subsequent to the call. We also find significant negative cumulative returns during a sixty-month period following the calls.
1. Introduction
A number of recent studies have examined corporate policies with regard to calls of convertible bonds. Yet the motivation for the calls of convertible securities and the reaction of the firm’s shareholders to the call announcements are still not well understood. Ingersoll (1977a) and Brennan and Schwartz (1977) show that to minimize the value of the liability, convertible bonds should be called as soon as the firm can force conversion, which is when the conversion value equals the call price. Ingersoll (1977b), however, reports that of the 179 companies in his sample all but nine wait too long, according to his model, to call the bonds. Furthermore, this discrepancy is not explained by transaction costs or corporate taxes. Additional perplexing evidence is provided by Mikkelson (1981), who finds statistically significant negative excess returns associated with the call announcements. Brennan and Schwartz (1982), Dunn and Eades (1984), and Constantinides and Gundy (1985) discuss several reasons why management might rationally delay calling convertible bonds. These explanations are based on arguments such as: (i) management compensation schemes are a function of earnings per *We have benefited from the comments and suggestions of Ravi Jagannathan. Robert Korajczyk, David Larcker, Artur Raviv. Daniel Siegel, Eduardo Schwartz (the referee). and Clifford W. Smith (the editor). Research assistance was provided by Stephen V. Thomas. Financial support from the Banking Research Center and the Accounting Research Center at Northwestern University is gratefully acknowledged. The usual disclaimer applies.
0304-405X/87/$3.50
c 1987. Elsevier Science Publishers
B.V. (North-Holland)
92
A. R. Ojer and A.
Naturu~an,
Concernble
call pohcies
share: (ii) the loss of bondholders’ goodwill has an effect on the pricing of future bond issues; (iii) there is a preference for voluntary conversion induced through dividend increases; and (iv) some owners of convertible securities follow less than optimal voluntary conversion strategies. Mikkelson suggests that the negative excess returns associated with a call announcement could be related to the lost interest tax shield. Another explanation for the observed negative common-share return and the delayed calls is that the announcement of the call signals ‘bad news’. A signaling model of convertible call policy is presented by Harris and Raviv (1985). In their model, investors perceive the decision to call as a signal that conveys unfavorable information. As a result of the call, investors revise their expectations about the firm’s future prospects, and these revisions cause a decline in the share price. Smith (1986) also discusses the relationship between information asymmetry and observed negative stock price changes associated with the announcement of convertible bond calls. Other than the common shares’ negative return (a phenomenon that can be attributed to other factors), however, there is no documented evidence of bad news associated with calls of convertible debt. Thus an unresolved issue is whether the common shares’ negative returns reflect the direct effects of the conversion (such as the lost interest tax shield) or an information effect. A related issue is whether in delaying the call, management acts in its own interest (trying to maximize its compensation by avoiding dilution of earnings per share) or whether the call is delayed because of favorable information. The results of previous studies do not allow one to differentiate among the competing hypotheses regarding management motivation for the timing of the call and the share price reaction to the announcement of the call. In this study we provide evidence that can distinguish between the signaling hypothesis and other plausible explanations. If investors are rational and calls signal bad news, the information conveyed should be realized, and we should be able to observe this realization as an unexpected decline in the firm’s performance following the call.’ Thus if calls of convertible bonds are motivated by insiders’ information, two hypotheses follow: (1) The announcement of the call is associated with a decline in common share price since investors perceive the call as signaling bad news. (2) The bad news is manifested in the performance of the firm after the call. Results supporting the first hypothesis are provided by Mikkelson and are replicated in this study. The second hypothesis has not previously been examined, however. It should be emphasized that an unexpected change in performance is consistent with the signaling hypothesis, but inconsistent with ‘SC~Schwert (1981) for a discussion in economic performance.
of the problems
in using financial
data to identify
changes
A. R. Ofer and A. Natarajan. Concemble call policies
93
the other proposed explanations. In this study, we find that bad news is manifested in that firms calling their convertible bonds experience an unexpected decline in performance in the years following the call. We also examine the returns to common shares after the call and find significant negative cumulative abnormal returns. These results are consistent with the unexpected decline in economic performance and with the hypothesis that calls of convertible bonds signal bad news. They also imply market inefficiency, however. since they indicate that the signaled information is not fully incorporated into share prices at the announcement of the call. In section 2 we describe our sample, outline our methods, and present the results of our analysis of firm performance subsequent to the call. Our analysis of the equity returns is presented in section 3. A summary concludes the paper.
2. Economic performance subsequent to call 2. I.
Sample
A sample of 232 calls in the ten-year period between January 1971 and December 1980 is identified using Standard and Poor’s Bond Guide.’ From this sample we eliminate fifty-four calls for firms whose common stock is not listed on the New York or American Stock Exchanges, as well as twenty-two calls for companies for which no data are available on the COMPUSTAT or Center for Research in Security Prices (CRSP) tapes. Further examination reveals that in fifteen instances the calls were made in connection with an impending or a completed merger or acquisition. Since these calls are not considered voluntary, they are excluded from the analysis. The result is a sample of 141 voluntary calls, listed in the appendix. For the analysis of firm performance after the call, two calls are omitted from the sample because they were made by two companies that had called other convertible debt earlier in the same fiscal year. Eleven other calls, for which data are not available on the COMPUSTAT tapes (although return data are available on the CRSP tapes), are also omitted. This results in a sample of 128 calls. The 128 calls are distributed over a ten-year period, with some concentration toward the latter half of the decade.3 No industry concentration is evident among the companies making calls (seventy-seven 4-digit SIC industries are represented). Summary characteristics of the sample are presented in table 1. The amounts of convertible debt called are not trivial, either as a proportion ‘Calls of more single call.
than one series of convertible
debentures
on the same day were treated
as a
‘The distribution of calls by calendar year is as follows: 1971 - 15. 1972 - 17. 1973 - 1% 1974 - 5, 1975 - 3. 1976 - 13, 1977 - 12. 1978 - 17, 1979 - 11. and 1980 - 26. There is no concentration of calls among calendar months.
J.F E.- D
94
A. R. Ofer and A. Natarqan, Conrerrzble call pohcies Table 1
Summary
characteristics
of 128 calls of convertible dollars).
debt
betaeen
Mean Cull amount charactenstrcs Call amount Cull antount 0s a percentage o/: Common equity at beginning of call year Convertible debt at beginning of call year Long-term debt at beginning of call year Company characrerisrics Sales in call announcement year Total assets in call announcement
of the debt claims on the corporations the common equity.
1980 (millions
.Median
$13.1
$0.3-$250.0
18.5 79.1 30.2
13.4 98.4 16.6
0.2-81.0 6.2-100.0 0.2- 100.0
$334.4 $408.7
of
Range
$31.8
$1057.2 $1119.9
year
1971 and
$7.2-$X1,209.0 $33.2-$11.631.0
calling the debt or as a proportion
of
2.2. Methods and results To test the information-signaling hypothesis we examine whether there is an unexpected change in the firm’s performance after the call. Performance is defined as a relative change in profitability.4 One problem in measuring unexpected changes in performance following the call is the separation of cause and effect. For example, if profits are measured as earnings per share, an observed change in performance following the call could have been either the motivation for the call or the result of the conversion increasing the number of outstanding shares (and thus not represent an unexpected change in performance). To insure the correct identification of cause and effect, we use several measures of profitability, classified in relation to the impact of the conversion: 5 earnings before interest and taxes (EBIT), earnings before taxes (EBT), and earnings per share (EPS). The first measure, EBIT, is not affected by the conversion: the second, is affected by the reduction in interest payment; and the third, EPS, is affected by both the reduction in interest payment and the increase in the EBT,
4Smith (1986) discusses in financial policy. ‘These
profitability
the implied changes
measures
in net operating
are not independent.
cash Rows associated
with changes
A. R. Ofer and A. .ValaraJan. Concemble call
pohnes
95
Table 7 Growth earnings
rakes in earnings before interest and titxeh ( EBIT). ramings before tames ( EBT). and ptx share ( EPS). for a portfolio of tirms uith convertible bonds that were called between 1971 and 1980.
Year’
EBfT
.v lJ
EBT
:vh
EPS
,vh
-5 -4 -3
18.122 15.86% 18.89%
110 112 114
19.529 18.15% 22.09%
110 112 114
23.5lC; 24.51% 10.354
1 -; Cl +2 -3 +4 +5
17.238 17.81% 12.30% 13.82% 4.927 4.50% 12.48%
11s 116 107 103 104 92 77
18.14ac 18.797 10.12% 9.4jq 3.2jaC 1.33% 12.07%
116 115 107 103 104 92 17
21.969 24.03% - 1.14% -O.jjC, - 8.685 - 8.43nC 7.537
105 108 110 110 112 103 Y9 100 Y6 72
‘Year in relation to call year. h,V = number of calls.
number of shares outstanding. To explore cause and effect in the measurement of unexpected changes in performance further, we create a fourth variable that measures the profitability of the firm in the years following the call as if the conversion had not occurred, by subtractin, 0 the interest on the convertible bonds from earnings before taxes in the years following the call. For the period following the call the following variable is calculated: AEBT,=EBT,-R.
t=l
t...,
5,
where R is the interest payment on the convertible debt.6 This variable, AEBT, represents the adjusted earnings before tax during the period after the call, assuming the conversion did not occur. We first examine the relative change in the profit variables for a portfolio that includes the remaining companies in our sample. The relative change in each profit variable for the portfolio is calculated as follows:
p,.,=
k E,.,i-
i r=l
(2)
t E,.,,t-1
1=1
where E,.;., is the profit of company i in year t, measured profit variable j, and n is the number of firms in the sample. The results in table 2 indicate that there is a change subsequent to the call. For example, during the fi,ve years ‘The interest payment is calculated bonds that were converted.
as equal
to the coupon
in terms of the in performance before the call,
rate times the face value of the
96
A. R. Ofer and A. :VamraJan, Conrerrible call policres
growth in earnings per share for the portfolio ranges from 24.5% to 10.3%; in the five-year period following the call it ranges from 7.5% to -8.6%. More important, this change in performance is noticeable even when performance is measured in terms of EBIT, a variable not affected by the conversion. The growth rate in EBIT before the call ranges from 18.9% to 15.8%; after the call it ranges from 13.8% to 4.5%. To determine whether these changes are unexpected and significant, we have to identify changes in performance for individual firms. The performance of the firm in terms of the profit variable E,,,., is measured as the relative change of profit: P r.,.r=
(E,,,,,-E,.,.,-*)/IE,.,,l-~l~
where 1.1 defines the absolute value of the variable. Dividing by the absolute value of the profits introduces noise into the analysis, especially if earnings in a particular year are relatively small or close to zero. To ensure that our results are not ilriven by outliers, we eliminate observations where the relative change in profit is extreme in comparison with its average over the sample period. The criterion used is’
IP,.,.k/E.,I’5,
(4)
where p, , is the average change in profit variable j for firm i. To identify unexpected changes the expected performance has to be defined. Three models are postulated to describe the stochastic behavior through time of the performance indices and to identify their expected values. Model 1 assumes that the firm’s performance is stationary through time. Model 2 assumes that the expected performance of the firm in any given year is a function of the average performance of all the firms in the economy. Model 3 defines the expected performance of the firm in any given year as a function of the average performance of all other firms in the industry during the same year. To identify unexpected changes in performance, these models are estimated with the inclusion of a shift variable, defined as D,. r = 0
for
t -C call year,
= 1
for
t > call year.
(5)
‘The number of calls that were eliminated as a result of this criterion ranges from six when performance is measured as the relative change in earnings before interest and taxes to twenty-one for the earnings per share variable.
A, R. Ofer and A. ,VaararaJan.Convertible call polrcws
The following estimated:
three regressions corresponding
97
to the three models are
P !.I.’ =QI ,./.l+ljr.,.I~,.r+‘,.,.r.l,
(6)
P 1.J.l =(Y ,.,.1+Y,.,.2PM,.,+P,.,~,D,.,+e,~,.,.2,
(7)
P !.,.I
(8)
=CXl,J.3+~~.,.3PK~,J.~+~~.,.3D,.~+E~,,,~.3’
where PM,., is the average performance of all the firms on the COMPUSTAT tapes measured in terms of performance measure j, in year t, and PI,. ,, I is the average performance of all other firms in the same industry as firm i, measured in terms of performance measure j, in year t. The regressions are estimated for all the companies in the sample with at least eight observations; the maximum number of observations is fifteen. Under the null hypothesis that the calls are not motivated by new unfavorable information, calls should not be followed by an unexpected change in economic performance and the coefficients /3,,J. k should equal zero. Thus the following hypothesis can be tested: H,: H,:
P,.,.k=O’
for all i, for all j, and for all k.
b,.J.kfo’
To test this hypothesis we use the maximum likelihood ratio test. Define x ,.J.k=
[SSR(u),,,,k/SSR(r),.J.~]~.‘.X’2,
(9)
where SSR( u)~.J. k is the sum of squared residuals in the unrestricted regression for company i, performance index j, and model k; SSR(r),. J,k is similarly the sum of squared residuals in the restricted regression for company i, performance index j, and model k; and T,,., is the number of observations used in the regression. Then asymptotically, - 2 ln X,.,,k - ~~(1)~
(10)
and the test statistic is ,$t - (21nX,,,,,)
-XZ(nj>,
(11)
under the null hypothesis, where n, is .the number of companies for which enough data points are available to estimate /I;. j,k. The likelihood ratios in table 3 indicate that firms that call their convertible bonds have an unexpected change in performance subsequent to the call. All the likelihood ratios are significant at the 1% level, although it should be noted that the performance measures are not independent.
98
A R. Ofer und A.
The direction of the analyzing the average index. If the calls are cient ,B,.,. k should be its standard error and
~Vucoru~an. concerrihie cd pohaes
unexpected changes in performance can be identified by coefficient of the shift variable D, for each performance motivated by new unfavorable information, the coet% negative. To test this we first standardize each p,, ,, k by define
SP‘.,.k= PL,.k/SW!.,J,
(12)
and (13) The following H,:
hypothesis
can be tested:
SP/,L=O,
H,:
Under the Central Limit Theorem ing test statistic can be used:
J7u,.k < 0. s$,.~ is distributed
z = ~,.k/(“,)1’2.
normal
and the follow-
(14)
In table 3 we report the average standardized coefficients of the shift variable, s$,. k, and their ;-values. For all of the performance indices. ST,,., is negative and significant at the 1% level, indicating a significant decline in performance subsequent to the call of the convertible bonds. This decline is observed whether the benchmark is the performance of these firms in the period preceding the call, the average performance in the economy, or the average performance in the industry. The results also show an unexpected decline in performance for variables that are not affected by the conversion, such as earnings before interest and taxes and the adjusted earnings before taxes variable. These results suggest that the decline in performance after the call is not caused by the conversion of the bonds; rather. the expectation of such a decline is the reason for the call. The significant unexpected decline in the firms’ performance after the calls supports the hypothesis that the calls act as signals of bad news. The consistency of the results across three models that use different data sets to estimate the unexpected change in performance and the fact that the unexpected decline in- performance is identified for performance indices that are not affected by the conversion validate the robustness of the results. 3. Rates of return on common shares The common share returns of the companies in our sample are analyzed during two periods. First, we analyze the daily returns during the days surrounding the announcement of the call. This is done to verify that the calls
A R. Ofer and A. Yararajan.
Concertlble
99
call policies
Table 3 Tests for changes in performance subsequent to calls of convertible likelihood ratios. Xa, and the average standardized coefficient
bonds between 1971 and 1980: of the shift variable. 3,. k. Model la
X
1. 2. 3. 4.
Earnings before interest and taxes Earning before taxes Earnings per share Adjusted earnings before taxes
Zb
143.82’ 118.41’ 126.76’ 117.95’
q.
;d
Ne
4.34’ 2.67’ 2.29’ 3.57’
97 87 88 83
:d
N’
-3.84’ - 2.60’ - 2.99’ - 3.48’
97 87 88 83
kc
-0.441 - 0.286 - 0.243 - 0.390
Model 2’
XZb 1. 2. 3. 4.
Earnings Earnings Earnings Adjusted
before interest and taxes before taxes per share earnings before taxes
168.47’ 135.54f 151.75’ 133.21’
$. -
kc
0.395 0.297 0.317 0.381 Model 3”
Ne
XZb 1. 2. 3. 4.
Earnings Earnings Earnings Adjusted ‘Model
before interest and taxes before taxes per share earnings before taxes 1. Model
2, and Model 3 refer to the following
(I)
P,.,.,=*,.,,1
(2)
P~.,.r=~,,/.2+~,.,.2~~,.,+B,.,.2D,.,+~,,,,,.z.
(3) where P,M,,, firms prior
144.23’ 131.40’ 148.32f 130.89’
-
0.392 0.257 0.306 0.343
three regressions.
-
3.84’ 2.38’ 2.87’ 3.12’
96 86 87 83
respectively:
+P*.,.rDi.*+EI.,.r.I,
~.,.,=~L,.3+YL,.3PI,.,.l+8,.,.34,+~L,.~.3.
is the performance of company i measured in terms of performance index j in year 1. and Pl,, are the corresponding performance measures for the economy and for the other in the it&&. respectively. D,,, ISa shift variable that takes the value of zero for the years to the call and one for the years subsequent to the call. P, ,,I
hThe likelihood ratios are used to test whether the coefficient of the shift variable fi,,,,k different from zero. Under the null hypothesis, these ratios have a chi-square distribution. by its standard error ‘P,. ,, !. is standardized across all firms to produce $,, i(, which. under ‘The
is
and these values are then summed and averaged the Central Limit theorem. is distributed normal.
z-statistic.
‘V = number ‘Significant
of calls. at the 1% level
are indeed unexpected and that the market perceives them as signals of bad news. Second, we analyze the common stock monthly returns during the sixty months following the call. We do this to determine whether the unfavorable information is captured immediately in share prices or whether more unexpected bad news is revealed in subsequent periods. The Wall Street. Journal Index is examined for the formal call announcement date and for any prior announcements. The trading day before the
100
A.R. Ofer and
A. NataraJan, Concwtlble
call pokes
earliest announcement date is specified as the call announcement date or the event date and is identified as day 0 in our analysis. In thirty cases, no date is ascertainable from either the Wall Street Journal Index or Standard and Poor’s Bond Record. and these calls are dropped from this part of the analysis. The final sample for the evaluation of the market reaction to call announcements consists of 111 calls. Elimination of seventeen companies with missing data during the estimation period before the call announcement, as well as two calls made by companies that had called other convertible debt earlier in the same fiscal year, reduces the sample used in the analysis of monthly returns to ninety-two companies. Daily and monthly stock return data for the companies are obtained from the CRSP tapes. The CRSP daily and monthly equal-weighted indices are used as a proxy for the market return. The statistical procedure used to identify excess returns is described below for both daily and monthly returns. The single-factor market model is taken as the characterization of the rate of return on a stock:
(15) where t is the time unit over which the return is calculated, either a month or a day; R,, is the continuously compounded rate of return on stock i for period t; R,, is the continuously compounded rate of return on the market for period f; and E’is the random error for stock i for period t. The parameters (Y,and p, are estimated for each stock over a period before the call. For the daily returns analysis, the estimation period begins at day - 80 and ends with day - 21. For the monthly returns analysis, the estimation period begins at month -61 and ends with month -2. The estimated market model parameters are then used to calculate the residuals over the estimation period and the excess returns over the event period. To test for significance the procedure described in Pate11 (1976) is used. The excess returns for each firm are standardized by two factors: (i) the estimated standard deviation of the residuals during the estimation period and (ii) a factor that adjusts for predicting returns outside the estimation period. Assuming that the individual standardized excess returns are cross-sectionally independent, the average standardized excess return, ASR,, has a unit-normal distribution. To test the null hypothesis of a zero mean excess return, the statistic it is used: zl,= ASR,
f r-l
(7’- 2)/(7--4)
1I “’
,
06)
where T is the number of observations in the estimation period. The squared standardized excess returns can be used to test for a change in the variance of the excess returns given that the mean of the excess returns is zero. The statistic zZ, which is used to test for a shift in variance, has a
A R. Ofer
unit-normal
distribution
101
und A. NararaJun, Concerrrbie call polrcm
and is calculated
=2r =(ASSR,-1)
f
as
2(7--3)/(T-6)
(17)
r=l
where ASSR, is the average squared standardized The cumulative average excess returns are defined
CAR,=
i AR,, r=j
excess return as
for period
t.
(1%)
where AR, is the average excess return in period t and / and / are the first and last month in the cumulation period, respectively. To test for significance, the cumulative standardized excess returns for firm i are normalized by dividing by the number of months in the cumulation period. The normalized cumulative standardized excess returns are summed across firms. Assuming that the individual standardized excess returns are independent, the statistic z3 is used to test the null hypothesis of zero cumulative excess returns:
zJc= CSR,
‘[
5 (T1=1
l/2
2)/(T-
4)
,
(19)
I
where CSR, is the sum of the normalized cumulative standardized excess returns across nc firms with cumulative returns available in period c“. Table 4 presents the results of the analysis of share-price reaction to call announcements. The table reports the average excess returns, AR, average standardized excess returns, ASR, the average squared standardized returns, ASSR, and their corresponding z-statistics. In addition, to provide a distribution-free test for the variables of interest, ASR and ASSR, a jackknife procedure is employed. The jackknife procedure splits the total sample into arbitrary equal-sized subsets by deleting one observation at a time and computes n estimates of the sample mean. These sample means are then used to calculate a jackknifed mean, standard error, and t-statistic. The cumulative price drop on the announcement day and the following day is 0.09%. The average cumulative excess return over the forty-one-day test period is - 0.6%. whereas it is - 1.7% over the five-day period from day - 1 to day +3. An examination of the squared residual statistics reveals only two days with significant t-statistics at a 1% level for the two-tailed test: these are day 0 (the call announcement date) and day +l (the day following the call announcement). This indicates that there is a market reaction to the call announcements. The nature of the market reaction can be determined through
A. R. Ofer and A.
107
.Yafaru~an. Concernble
call policres
Table 4 A\eragc excess returns (.A R 1. average standardized excess returns ( .-ISR ). and aterage squared standardized excess returns ( ASSR) for forty-one days surrounding the announcements of 111 calls of convertible bonds between 1971 and 1980. ARh
Day”
-
20 - 19
- 18 - 17 - 16 - 15 - 14 -13 - 12 - 11 - 10 -9 -X -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 : 7 8 9 10 11 12 13 14 15 16 17 18 19 20
-
-
-
-
ASRh
0.002
0.152
0.004 0.001 0.001 0.002 0.003 0.00’ 0.000 0.005 0.001 0.001 0.002 0.002 0.003 0.001 0.003 0.004 0.000 0.001 0.002 0.002 0.009 0.004 0.001 0.002 0.002 0.000 0.001 0.002 0.001 0.000 0.002 0.000 0.003 0.001 0.001 0.003 0.002 0.001 0.004 0.001
0.176 0.068 0.056 0.095 -0.12Y 0.024 0.034 0.230 - 0.063 - 0.107 0.138 -0.110 - 0.222 0.071 0.139 0.167 0.011 0.080 -0.018 -0.114 - 0.499 -0.183 -0.100 -0.148 -0.113 - 0.049 0.095 0.035 - 0.032 0.005 - 0.090 0.036 -0.121 0.027 - 0.005 -0.135 0.085 0.003 0.205 - 0.048
I’
Id
AS.SRh
:’
P
1.589 1.840 0.711 0.585 0.996 - 1.342 0.251 0.353 2.403 - 0.656 - 1.107 1.446 - 1.152 - 2.312 0.738 1.450 1.746 0.118 0.834 -0.190 - 1.188 - 5.200 - 1.904 - 1.041 - 1.545 - 1.179 - 0.514 0.990 0.362 - 0.334 0.052 - 0.930 0.378 - 1.270 0.286 - 0.049 - 1.406 0.883 0.032 2.137 - 0.502
1.350 1.702 0.657 0.542 0.943 - 1.537 0.2’6 0.374 2.019 - 0.681 - 1.023 1.489 - 1.153 - 2.380 0.624 1.640 1.586 0.120 0.506 -0.112 - 0.841 - 3.465 - 1.822 - 0.943 - 1.590 - 1.043 - 0.574 0.876 0.3Y5 - 0.321 0.045 - 0.930 0.437 - 1.229 0.245 - 0.048 - 1.322 0.816 0.030 1.888 - 0.539
1.238 1.211 1.188 1.180 1.136 0.7Y2 1.244 0.905 1.487 0.942 1.238 0.964 1.021 1.004 1.422 0.810 1.254 0.964 2.754 2.901 2.057 2.527 1.137 1.243 0.977 1.306 0.813 1.301 0.854 1.096 1.362 1.039 0.773 1.096 1.382 1.088 1.161 1.190 1.112 1.338 0.879
1.559 1.388 1.201 1.141 0.828 - 1.641 1.605 - 0.833 3.350 - 0.567 1.495 - 0.410 0.004 -0.124 2.885 - 1.517 1.676 - 0.409 12.452 13.509 7.465 10.820 0.836 1.59Y -0.317 2.048 - 1.492 2.010 - 1.195 0.542 2.454 0.131 - 1.771 0.541 2.591 0.481 1.009 1.216 0.651 2.276 - 1.020
0.643 0.856 1.050 0.920 0.498 - 1.549 0.541 - 0.699 1.252 - 0.431 1.308 - 0.236 0.134 0.027 1.136 - 1.270 1.028 - 0.205 1.009 1.190 2.953 3.377 0.837 0.997 -0.111 1.213 - 1.430 1.200 - 1.151 0.465 1.450 0.189 - 1.607 0.358 1.183 0.538 0.766 0.888 0.623 1.472 - 0.890
“Trading day prior to the earliest announcement is specified as day 0. hExcess returns are based on market model parameters estimated over days - 80 through - 21. ‘The :-statistic. ‘The r-statistic is generated with a jackknife method.
A. R. O/H and
Conwrtrble
A. .Vuturapn.
call pokes
103
/
4.
-.o.o
+:::::.~::-+::‘::C_CC::::::x3
1
5
9
13
17
Yonth
21 in
25
relation
29 to
33 Call
37
41
Announosmrnt
45
49
53
57
Date
Fig. 1. Average excess returns following the announcement of calls of convertible bonds between 1971 and 1980. Excess returns are based on market model parameters estimated over months - 61 to -2.
the average standardized residuals ( ASR). On day + 1 and day + 2, the ASRs are negative and significant at the 1% an d 10% levels, respectively. In terms of magnitude, the ASR on day +I is more than twice the size of the same statistic on any of the other forty days. The significant negative market reaction to the call announcement supports the hypothesis that the calls signal unfavorable information about the firms’ prospects. The results in table 4 are consistent with those reported by Mikkelson (1981)’ The analysis of the returns to common shares during the sixty months following the call indicates significant negative abnormal returns. During most of the period analyzed, the average excess returns, AR, and the average standardized excess returns, ASR,‘are negative. Whereas eleven months out of the sixty have a negative and significant (at a 5% level or better) ASR, none of the ASRs are positive and significant. The average monthly residuals are presented in fig. 1. Table 5 reports the cumulative average excess returns, CARS, and the z-statistics for the normalized cumulative standardized excess returns, CSRs, for different holding periods. The CARS for all the holding “Mikkelson’s event date is the date on which and is equivalent to our day + 1.
Journul
the announcement
appears
in the Wall Srreet
A. R. Ofer and A. NararaJan. Conoerrrble cull pohcies
104
Table 5 Cumulative
following
averrtge excess returns
the announcement
(C.4 Rs) and :-statistics during different holding periods. of calls of comeruble bonds between 1971 and 1980 (in percentages). .L
@
3.96’ 6.21’ 7.39e 8.54’ 7.21e
87 81 79 76 56
CARb
Months”
-
l-12 l-24 l-36 l-48 l-60
11.15 24.16 39.44 57.65 72.61
‘Month 1 is the first moc;:l following the call announcement. ‘Excess returns are based on market model parameters estimated over months -61 through _ 2. The percentage of negative residuals in a given month ranges from 437 to 70%. with a mean value of 53.9%. ‘The z-statistic is equal to the sum of the normalized cumulative standardized excess returns across all firms divided by (I:_, (7 - 2)/( T - 4))“‘. where ir is the number of obsemations in the estimation period and n IS the number of tirms. dN = the number of firms in the sample with returns available during cumulation period. “Significant at the 1% level.
periods- are negative. More important, the z-statistics for the cumulative standardized excess returns are negative and significant at the 1% level. To ensure that these results are not caused by outliers, we examine the distribution of the normalized cumulative standardized excess returns for individual firms. Out of the ninety-two calls, sixty-six have a negative CSR. Twenty-two firms have a CSR less than - 1.96, and only three firms have a CSR greater than 1.96. The distribution of the CSRs indicates that these results are not driven by a few outliers. 9 Furthermore, replicating this analysis, using the mean-adjusted and market-adjusted models to estimate the excess returns, yields similar results.” The significant negative monthly excess returns during the sixty-month period indicate that more unexpected and unfavorable information is revealed to the market after the calls. These results present a puzzle. The significant negative CARS are consistent with the unexpected decline in accounting performance these firms experience during the same period, and they are also consistent with the hypothesis that calls of convertible bonds signal bad news. These results also imply, however, that the information signaled by the calls is not fully incorporated into the share price at the time of the call announcement.” To this extent, these results suggest a market inefficiency. An altemative explanation for the negative CARS is that there is a shift in the mean ‘The results cannot be attributed to a shift in beta. The average was 1.037 and the average beta in the test period was 1.090. “See
Brown
and Warner
(1985) for a discussion
beta in the estimation
period
of these models.
‘t In this respect, it is interesting to note that results in table 2 indicate that the largest drop in profit growth rates occurred in the third and fourth years following the call.
A. R. Ofer and A. NararaJan. Concertlble
call policies
10s
return and that the benchmarks we use in the analysis are inappropriate. resulting in an over-estimate of the normal rate of return for these securities. 4. Summary Previous studies of convertible bond calls showed that firms tend to delay such calls. and that call announcements are associated with significant negative common stock returns. Several explanations have been offered for this phenomenon. The results in previous studies are not sufficient. however. to differentiate among different hypotheses regarding the motivation for the calls and the share price reaction to their announcement. This paper presents evidence that supports the information-signaling hypothesis. This hypothesis postulates that calls of convertible bonds signal new and unfavorable information to investors in the market. For a signal to be effective, the information it conveys must materialize at some point. If calls of convertible debt are motivated by, and convey. new unfavorable information about the firm’s prospects, we should observe an unexpected decline in the firm’s performance in the years after the call. Performance is defined as the relative change in a profit variable, and four profit variables are used in the analysis. To ensure that the results are independent of model specification, three models are used to identify the unexpected change in performance. All three models identify statistically unexpected declines in performance for all four profit variables after the calls of convertible debt. Although the various tests are not independent. the consistency of the results across three models and the fact that the unexpected decline in performance is identified also for performance indices that are not affected by the conversion attests to the robustness of our results. Taken together. the significant decline in performance after the call of convertible bonds. the significant negative common stock returns associated with the announcement of the call, and the significant cumulative abnormal returns following the call support the hypothesis that calls are motivated by new unfavorable information. The significant negative cumulative residuals subsequent to the calls suggest market inefficiency, They imply that the information signaled by the calls is not fully incorporated into share prices at the time of the announcements and that more unexpected and unfavorable information is revealed to the market after the calls. Alternatively the negative cumulative returns can be the outcome of overestimating the normal rate of return for these securities during the period after the call. In recent years the notion of asymmetric information and signaling equilibrium has become important in economic and financial theory. Few studies have examined the empirical content of this concept. Our study provides a direct evaluation of a signaling hypothesis, since an unexpected decline in performance after the call is inconsistent with other proposed explanations and is consistent with the information-signaling hypothesis. The results of our analysis support this hypothesis for calls of convertible bonds.
197X OS/12/71 OX/l s/79 04/26/71 06/W/71 08/07/X0 12/21/71 05/1Yj77 1976 0X/02/79 02/02/72 02/26/71 1974 06/l 3/75 04/05/77 12/21/7Y &I/24/72 19x0 01/1x/73 12/l l/80 197X 1976 1976 06/20/77 11/20/x0 01/17/x0 IY71 OY/OX/7X 1 l/01/73 OX/l s/7’) 01/l X/72 1978 0X/26/77
Aero-Flow Dynamics Akzona Inc. Alaska Airlines Amerada Hess American Air Filter American Hospital Supply AMR Corp Apco Oil APL Corp AVCO Corp Ranister Continental Banister Continental Bausch and Lomb Baxter Labs. Bcauni t (El Paso Co) Beech Aircraft Big Three Industries Burlington Northern Burroughs Corp Iluttcs Gas and Oil Collins and Aikman Copperweld Corp. Core Laboratories Crystui Oil Development Corp. of America Digital Equipment Corp Eastern Airlines Eastern Airlines Echlin Manufacturing Eckerd (Jack) Co Ehrenreich Photo-Optic El Paso Natural Gas El Paso Natural Gas
Name of company
Announcement date
List of sample companies
making call
Appendix Table 6 calling convertible
call
Macy (R.H.) Inc. Macv (R.H.) Inc. Map;; Inc. Marindique Mining Martin Marietta Masco Corp McCulloch Oil McCulloch Oil McDermott (J. Ray) Mesa Petroleum MGIC Investment MGM Inc Microdot Missouri Pacific Mohawk Data Sciences MSL Industries National Can National Health Enterprises National Medical Enterprises National Starch and Chemicals NCR Corp Newhall Land and Farming Northrop Oak Industries Occidental Petroleum Pan American World Airways Pan American World Airways Patrick Petroleum Pahall Inc Pengo lndustries Penney (J.C) Philip Morris Pillsbury Co
making
1971 and lYX0.
Name of company
debt between
1Y71 12/01/7x 0x/30/7x 07/03/74 0x/17/7’) 0X/06/X0 03/20/7Y 03/03/77 0x/23/7x 01/17/x0 I Y77 02/l 3/x0 05/10/77 0x/30/7x OY/l2/7X 07/l 7/X0 06/l X/76 12/30/X0 1971 1Y74 07/l l/75
02/06/76
I973 06/l 3/7X I Y72 05/01/74 07/2X/7X 06/l 5/72 02/10/72 12/11/7Y 12/lY/73 05/14/71 12/22/72
Announcement date
? 2 G s 2 =z % % S’ 5
P
%
:
Q 2 % ra i $
z ‘?
Elgin National Industries Empire Gas Enstar Corp Essex International Esterline Corp Evans Products First Union Real Estate Fischer and Porter Fischer Scientific Florida Gas Co. Forest City Enterprises FR Liauidatinr Fuqua’Indus& Gelco carp General Instrument (;corgia Pacific (;rorgia Pacific Grainger (W.W) Grow Group (;rtmmlan Carp (;ulf & Wcstcrn (iulf & Wcbtcrn Industrica (iulf Life lloldings Gulf Resource and Chemicals Harrahs I Ielmerich and Payne Hcublin Inc flocrner-Waldorl Hughes Tool lnsilco Corp ltel Carp I ccl carp K Marl Kaufman Broad Inc Kerr-McGee Corp Leslie F;ly Inc. LTV Corp Ol/j17/73 06/20/75 0X/16/78 12/04/75 03/14/72 lY77 11/20/X() 09/25/X0 02/16/77 06/20/77 01/l l/73 04/24/72 0X/22/12 1Y71 0X/06/76
ol/3o/xo 01/22/76 IYXI
05/04/79 01/27/76 I l/23/76 07/18/72 11/24/X()
1976 02/22/7Y 11/30/7Y 1976 06/24/X0 09/21/77 06/22/7Y 1972 19x0 05/l 3/71 Oh/l 3/7Y 06/23;XO 05/01/72 ‘197X Pizza Hut I’neumo Carp Prime Computer Republic National Bank (N.Y) Rohr Industries Rowan Cos. Ryder System Inc. Sabine Corp Santa Fe International Santa Fe International Saxan Industries Scotty’h Inc. Seiscom Delta Shearson Loch Rhocrdcs Southeast l)ancorp Sperry Corp Standard Oil (lndiami) Stauffer Chemical Sun Electric Simdstrand Carp Sumhine Mining Tandy Corn. Tand; CO&J. Tenneco Corp. Tidewater Tyler Corp Tyler Corp UAL USAIR Wainoco Oil Wallace-Murray Wahnart Store5 Warner Brother+7 Arts Welded Tube Corp of America Western Union Carp W illiamr Bras Williams Cos. Zapata Carp 1Y71 19x1 0X/24/7’) 10/31/77 05/27/76 12/20/71 12j14;7x 08/25/7X 06;21;78 06/l 5/7X II/IX/77 OY/21/72 01/26/76 03/2Y/72 02/OY/7 I I l/05/73 01/2x/x0
19x0
IY71 07/03/X(1 03/10/72 11/26/X0 1Y72 12/14/72 OX/2Y/XO 19x0 10/04/73 01/30/x0 10/31/74 10/22/15 OY/I2/77 10/20/x0
I2/ I x/x0
07/22/76 05/ 1Y/77 02/04/X0 OX/OY/7X 1913
108
A. R. Ofer and A. ,Vumru~an. Conwrtible call pohes
References Brennan. Michael J. and Eduardo S. Schwartz, 1977. Convertible bonds: Valuation and optimal strategies for call and conversion. Journal of Finance 32, 1699%17:j. Brennan. Michael J. and Eduardo S. Schwartz. 1982, The case for convertibles. Chase Financial Quarterly. 27-46. Brown. Stephen J. and Jerold B. Warner. 1985. Using daily stock returns: The case of event studies. Journal of Financial Economics 14. 3-31. Constantinedes. George M. and Bruce D. Grundy, 1985. Call and conversion of convertible corporate bonds: Theory and evidence. Working paper (University of Chicago. Chicago. IL). Dunn. Kenneth B. and Kenneth M. Eades. 1984, Voluntary conversion of convertible preferred stock and the optimal call strategy. Unpublished manuscript (Carnegie-Mellon University. Pittsburgh. PA). Harris, Milton and Artur Raviv. 1985. A sequential signaling model of convertible debt policy, Journal of Finance 40. 1263-1281. Ingersoll. Jonathan E. Jr.. 1977~1. A contingent claims valuation of convertible securities, Journal of Financial Economics 4. 289-322. Ingersoll. Jonathan E. Jr., 1977b. An examination of corporate call policies on convertible securities, Journal of Finance 32. 463-478. Mikkelson, Wayne H.. 1981, Convertible calls and security returns. Journal of Financial Economics 9. 237-264. Mikkelson, Wayne H., 1983, Capital structure changes and decreases in stockholders’ wealth: A cross-sectional study of convertible security calls. Working paper no. 1137 (National Bureau of Economic Research, Cambridge, MA). Patell, James M., 1976. Corporate forecasts of earnings per share and stock price behavior: Empirical tests. Journal of Accounting Research 14, 246-276. Schwert. G. William, 1981. Using hnancial data to measure the efi’ects of regulation. Journal of Law and Economics 24. 121-158. Smith, Clifford W. Jr., 1986. Investment banking and the capital acquisition process. Journal of Financial Economics 15. 3-29.
of Financial
Economics
19 (1987) 91-108.
CONVERTIBLE
North-Holland
CALL POLICIES*
An Empirical Analysis of an Information-Signaling
Aharon
Hypothesis
R. OFER
Northwestern Uniuersi
Ashok NATARAJAN ?lorthwestern Received
November
Unioersgv. Evanston. IL 60208. USA 1985, final version received December
1986
This paper tests an information-signaling hypothesis as a potential explanation for corporate convertible bond call policies and for the negative share price reaction to the announcement of the calls. We test this hypothesis by trying to ascertain whether the information signaled is realized. Our results show an unexpected decline in the firm’s performance.subsequent to the call. We also find significant negative cumulative returns during a sixty-month period following the calls.
1. Introduction
A number of recent studies have examined corporate policies with regard to calls of convertible bonds. Yet the motivation for the calls of convertible securities and the reaction of the firm’s shareholders to the call announcements are still not well understood. Ingersoll (1977a) and Brennan and Schwartz (1977) show that to minimize the value of the liability, convertible bonds should be called as soon as the firm can force conversion, which is when the conversion value equals the call price. Ingersoll (1977b), however, reports that of the 179 companies in his sample all but nine wait too long, according to his model, to call the bonds. Furthermore, this discrepancy is not explained by transaction costs or corporate taxes. Additional perplexing evidence is provided by Mikkelson (1981), who finds statistically significant negative excess returns associated with the call announcements. Brennan and Schwartz (1982), Dunn and Eades (1984), and Constantinides and Gundy (1985) discuss several reasons why management might rationally delay calling convertible bonds. These explanations are based on arguments such as: (i) management compensation schemes are a function of earnings per *We have benefited from the comments and suggestions of Ravi Jagannathan. Robert Korajczyk, David Larcker, Artur Raviv. Daniel Siegel, Eduardo Schwartz (the referee). and Clifford W. Smith (the editor). Research assistance was provided by Stephen V. Thomas. Financial support from the Banking Research Center and the Accounting Research Center at Northwestern University is gratefully acknowledged. The usual disclaimer applies.
0304-405X/87/$3.50
c 1987. Elsevier Science Publishers
B.V. (North-Holland)
92
A. R. Ojer and A.
Naturu~an,
Concernble
call pohcies
share: (ii) the loss of bondholders’ goodwill has an effect on the pricing of future bond issues; (iii) there is a preference for voluntary conversion induced through dividend increases; and (iv) some owners of convertible securities follow less than optimal voluntary conversion strategies. Mikkelson suggests that the negative excess returns associated with a call announcement could be related to the lost interest tax shield. Another explanation for the observed negative common-share return and the delayed calls is that the announcement of the call signals ‘bad news’. A signaling model of convertible call policy is presented by Harris and Raviv (1985). In their model, investors perceive the decision to call as a signal that conveys unfavorable information. As a result of the call, investors revise their expectations about the firm’s future prospects, and these revisions cause a decline in the share price. Smith (1986) also discusses the relationship between information asymmetry and observed negative stock price changes associated with the announcement of convertible bond calls. Other than the common shares’ negative return (a phenomenon that can be attributed to other factors), however, there is no documented evidence of bad news associated with calls of convertible debt. Thus an unresolved issue is whether the common shares’ negative returns reflect the direct effects of the conversion (such as the lost interest tax shield) or an information effect. A related issue is whether in delaying the call, management acts in its own interest (trying to maximize its compensation by avoiding dilution of earnings per share) or whether the call is delayed because of favorable information. The results of previous studies do not allow one to differentiate among the competing hypotheses regarding management motivation for the timing of the call and the share price reaction to the announcement of the call. In this study we provide evidence that can distinguish between the signaling hypothesis and other plausible explanations. If investors are rational and calls signal bad news, the information conveyed should be realized, and we should be able to observe this realization as an unexpected decline in the firm’s performance following the call.’ Thus if calls of convertible bonds are motivated by insiders’ information, two hypotheses follow: (1) The announcement of the call is associated with a decline in common share price since investors perceive the call as signaling bad news. (2) The bad news is manifested in the performance of the firm after the call. Results supporting the first hypothesis are provided by Mikkelson and are replicated in this study. The second hypothesis has not previously been examined, however. It should be emphasized that an unexpected change in performance is consistent with the signaling hypothesis, but inconsistent with ‘SC~Schwert (1981) for a discussion in economic performance.
of the problems
in using financial
data to identify
changes
A. R. Ofer and A. Natarajan. Concemble call policies
93
the other proposed explanations. In this study, we find that bad news is manifested in that firms calling their convertible bonds experience an unexpected decline in performance in the years following the call. We also examine the returns to common shares after the call and find significant negative cumulative abnormal returns. These results are consistent with the unexpected decline in economic performance and with the hypothesis that calls of convertible bonds signal bad news. They also imply market inefficiency, however. since they indicate that the signaled information is not fully incorporated into share prices at the announcement of the call. In section 2 we describe our sample, outline our methods, and present the results of our analysis of firm performance subsequent to the call. Our analysis of the equity returns is presented in section 3. A summary concludes the paper.
2. Economic performance subsequent to call 2. I.
Sample
A sample of 232 calls in the ten-year period between January 1971 and December 1980 is identified using Standard and Poor’s Bond Guide.’ From this sample we eliminate fifty-four calls for firms whose common stock is not listed on the New York or American Stock Exchanges, as well as twenty-two calls for companies for which no data are available on the COMPUSTAT or Center for Research in Security Prices (CRSP) tapes. Further examination reveals that in fifteen instances the calls were made in connection with an impending or a completed merger or acquisition. Since these calls are not considered voluntary, they are excluded from the analysis. The result is a sample of 141 voluntary calls, listed in the appendix. For the analysis of firm performance after the call, two calls are omitted from the sample because they were made by two companies that had called other convertible debt earlier in the same fiscal year. Eleven other calls, for which data are not available on the COMPUSTAT tapes (although return data are available on the CRSP tapes), are also omitted. This results in a sample of 128 calls. The 128 calls are distributed over a ten-year period, with some concentration toward the latter half of the decade.3 No industry concentration is evident among the companies making calls (seventy-seven 4-digit SIC industries are represented). Summary characteristics of the sample are presented in table 1. The amounts of convertible debt called are not trivial, either as a proportion ‘Calls of more single call.
than one series of convertible
debentures
on the same day were treated
as a
‘The distribution of calls by calendar year is as follows: 1971 - 15. 1972 - 17. 1973 - 1% 1974 - 5, 1975 - 3. 1976 - 13, 1977 - 12. 1978 - 17, 1979 - 11. and 1980 - 26. There is no concentration of calls among calendar months.
J.F E.- D
94
A. R. Ofer and A. Natarqan, Conrerrzble call pohcies Table 1
Summary
characteristics
of 128 calls of convertible dollars).
debt
betaeen
Mean Cull amount charactenstrcs Call amount Cull antount 0s a percentage o/: Common equity at beginning of call year Convertible debt at beginning of call year Long-term debt at beginning of call year Company characrerisrics Sales in call announcement year Total assets in call announcement
of the debt claims on the corporations the common equity.
1980 (millions
.Median
$13.1
$0.3-$250.0
18.5 79.1 30.2
13.4 98.4 16.6
0.2-81.0 6.2-100.0 0.2- 100.0
$334.4 $408.7
of
Range
$31.8
$1057.2 $1119.9
year
1971 and
$7.2-$X1,209.0 $33.2-$11.631.0
calling the debt or as a proportion
of
2.2. Methods and results To test the information-signaling hypothesis we examine whether there is an unexpected change in the firm’s performance after the call. Performance is defined as a relative change in profitability.4 One problem in measuring unexpected changes in performance following the call is the separation of cause and effect. For example, if profits are measured as earnings per share, an observed change in performance following the call could have been either the motivation for the call or the result of the conversion increasing the number of outstanding shares (and thus not represent an unexpected change in performance). To insure the correct identification of cause and effect, we use several measures of profitability, classified in relation to the impact of the conversion: 5 earnings before interest and taxes (EBIT), earnings before taxes (EBT), and earnings per share (EPS). The first measure, EBIT, is not affected by the conversion: the second, is affected by the reduction in interest payment; and the third, EPS, is affected by both the reduction in interest payment and the increase in the EBT,
4Smith (1986) discusses in financial policy. ‘These
profitability
the implied changes
measures
in net operating
are not independent.
cash Rows associated
with changes
A. R. Ofer and A. .ValaraJan. Concemble call
pohnes
95
Table 7 Growth earnings
rakes in earnings before interest and titxeh ( EBIT). ramings before tames ( EBT). and ptx share ( EPS). for a portfolio of tirms uith convertible bonds that were called between 1971 and 1980.
Year’
EBfT
.v lJ
EBT
:vh
EPS
,vh
-5 -4 -3
18.122 15.86% 18.89%
110 112 114
19.529 18.15% 22.09%
110 112 114
23.5lC; 24.51% 10.354
1 -; Cl +2 -3 +4 +5
17.238 17.81% 12.30% 13.82% 4.927 4.50% 12.48%
11s 116 107 103 104 92 77
18.14ac 18.797 10.12% 9.4jq 3.2jaC 1.33% 12.07%
116 115 107 103 104 92 17
21.969 24.03% - 1.14% -O.jjC, - 8.685 - 8.43nC 7.537
105 108 110 110 112 103 Y9 100 Y6 72
‘Year in relation to call year. h,V = number of calls.
number of shares outstanding. To explore cause and effect in the measurement of unexpected changes in performance further, we create a fourth variable that measures the profitability of the firm in the years following the call as if the conversion had not occurred, by subtractin, 0 the interest on the convertible bonds from earnings before taxes in the years following the call. For the period following the call the following variable is calculated: AEBT,=EBT,-R.
t=l
t...,
5,
where R is the interest payment on the convertible debt.6 This variable, AEBT, represents the adjusted earnings before tax during the period after the call, assuming the conversion did not occur. We first examine the relative change in the profit variables for a portfolio that includes the remaining companies in our sample. The relative change in each profit variable for the portfolio is calculated as follows:
p,.,=
k E,.,i-
i r=l
(2)
t E,.,,t-1
1=1
where E,.;., is the profit of company i in year t, measured profit variable j, and n is the number of firms in the sample. The results in table 2 indicate that there is a change subsequent to the call. For example, during the fi,ve years ‘The interest payment is calculated bonds that were converted.
as equal
to the coupon
in terms of the in performance before the call,
rate times the face value of the
96
A. R. Ofer and A. :VamraJan, Conrerrible call policres
growth in earnings per share for the portfolio ranges from 24.5% to 10.3%; in the five-year period following the call it ranges from 7.5% to -8.6%. More important, this change in performance is noticeable even when performance is measured in terms of EBIT, a variable not affected by the conversion. The growth rate in EBIT before the call ranges from 18.9% to 15.8%; after the call it ranges from 13.8% to 4.5%. To determine whether these changes are unexpected and significant, we have to identify changes in performance for individual firms. The performance of the firm in terms of the profit variable E,,,., is measured as the relative change of profit: P r.,.r=
(E,,,,,-E,.,.,-*)/IE,.,,l-~l~
where 1.1 defines the absolute value of the variable. Dividing by the absolute value of the profits introduces noise into the analysis, especially if earnings in a particular year are relatively small or close to zero. To ensure that our results are not ilriven by outliers, we eliminate observations where the relative change in profit is extreme in comparison with its average over the sample period. The criterion used is’
IP,.,.k/E.,I’5,
(4)
where p, , is the average change in profit variable j for firm i. To identify unexpected changes the expected performance has to be defined. Three models are postulated to describe the stochastic behavior through time of the performance indices and to identify their expected values. Model 1 assumes that the firm’s performance is stationary through time. Model 2 assumes that the expected performance of the firm in any given year is a function of the average performance of all the firms in the economy. Model 3 defines the expected performance of the firm in any given year as a function of the average performance of all other firms in the industry during the same year. To identify unexpected changes in performance, these models are estimated with the inclusion of a shift variable, defined as D,. r = 0
for
t -C call year,
= 1
for
t > call year.
(5)
‘The number of calls that were eliminated as a result of this criterion ranges from six when performance is measured as the relative change in earnings before interest and taxes to twenty-one for the earnings per share variable.
A, R. Ofer and A. ,VaararaJan.Convertible call polrcws
The following estimated:
three regressions corresponding
97
to the three models are
P !.I.’ =QI ,./.l+ljr.,.I~,.r+‘,.,.r.l,
(6)
P 1.J.l =(Y ,.,.1+Y,.,.2PM,.,+P,.,~,D,.,+e,~,.,.2,
(7)
P !.,.I
(8)
=CXl,J.3+~~.,.3PK~,J.~+~~.,.3D,.~+E~,,,~.3’
where PM,., is the average performance of all the firms on the COMPUSTAT tapes measured in terms of performance measure j, in year t, and PI,. ,, I is the average performance of all other firms in the same industry as firm i, measured in terms of performance measure j, in year t. The regressions are estimated for all the companies in the sample with at least eight observations; the maximum number of observations is fifteen. Under the null hypothesis that the calls are not motivated by new unfavorable information, calls should not be followed by an unexpected change in economic performance and the coefficients /3,,J. k should equal zero. Thus the following hypothesis can be tested: H,: H,:
P,.,.k=O’
for all i, for all j, and for all k.
b,.J.kfo’
To test this hypothesis we use the maximum likelihood ratio test. Define x ,.J.k=
[SSR(u),,,,k/SSR(r),.J.~]~.‘.X’2,
(9)
where SSR( u)~.J. k is the sum of squared residuals in the unrestricted regression for company i, performance index j, and model k; SSR(r),. J,k is similarly the sum of squared residuals in the restricted regression for company i, performance index j, and model k; and T,,., is the number of observations used in the regression. Then asymptotically, - 2 ln X,.,,k - ~~(1)~
(10)
and the test statistic is ,$t - (21nX,,,,,)
-XZ(nj>,
(11)
under the null hypothesis, where n, is .the number of companies for which enough data points are available to estimate /I;. j,k. The likelihood ratios in table 3 indicate that firms that call their convertible bonds have an unexpected change in performance subsequent to the call. All the likelihood ratios are significant at the 1% level, although it should be noted that the performance measures are not independent.
98
A R. Ofer und A.
The direction of the analyzing the average index. If the calls are cient ,B,.,. k should be its standard error and
~Vucoru~an. concerrihie cd pohaes
unexpected changes in performance can be identified by coefficient of the shift variable D, for each performance motivated by new unfavorable information, the coet% negative. To test this we first standardize each p,, ,, k by define
SP‘.,.k= PL,.k/SW!.,J,
(12)
and (13) The following H,:
hypothesis
can be tested:
SP/,L=O,
H,:
Under the Central Limit Theorem ing test statistic can be used:
J7u,.k < 0. s$,.~ is distributed
z = ~,.k/(“,)1’2.
normal
and the follow-
(14)
In table 3 we report the average standardized coefficients of the shift variable, s$,. k, and their ;-values. For all of the performance indices. ST,,., is negative and significant at the 1% level, indicating a significant decline in performance subsequent to the call of the convertible bonds. This decline is observed whether the benchmark is the performance of these firms in the period preceding the call, the average performance in the economy, or the average performance in the industry. The results also show an unexpected decline in performance for variables that are not affected by the conversion, such as earnings before interest and taxes and the adjusted earnings before taxes variable. These results suggest that the decline in performance after the call is not caused by the conversion of the bonds; rather. the expectation of such a decline is the reason for the call. The significant unexpected decline in the firms’ performance after the calls supports the hypothesis that the calls act as signals of bad news. The consistency of the results across three models that use different data sets to estimate the unexpected change in performance and the fact that the unexpected decline in- performance is identified for performance indices that are not affected by the conversion validate the robustness of the results. 3. Rates of return on common shares The common share returns of the companies in our sample are analyzed during two periods. First, we analyze the daily returns during the days surrounding the announcement of the call. This is done to verify that the calls
A R. Ofer and A. Yararajan.
Concertlble
99
call policies
Table 3 Tests for changes in performance subsequent to calls of convertible likelihood ratios. Xa, and the average standardized coefficient
bonds between 1971 and 1980: of the shift variable. 3,. k. Model la
X
1. 2. 3. 4.
Earnings before interest and taxes Earning before taxes Earnings per share Adjusted earnings before taxes
Zb
143.82’ 118.41’ 126.76’ 117.95’
q.
;d
Ne
4.34’ 2.67’ 2.29’ 3.57’
97 87 88 83
:d
N’
-3.84’ - 2.60’ - 2.99’ - 3.48’
97 87 88 83
kc
-0.441 - 0.286 - 0.243 - 0.390
Model 2’
XZb 1. 2. 3. 4.
Earnings Earnings Earnings Adjusted
before interest and taxes before taxes per share earnings before taxes
168.47’ 135.54f 151.75’ 133.21’
$. -
kc
0.395 0.297 0.317 0.381 Model 3”
Ne
XZb 1. 2. 3. 4.
Earnings Earnings Earnings Adjusted ‘Model
before interest and taxes before taxes per share earnings before taxes 1. Model
2, and Model 3 refer to the following
(I)
P,.,.,=*,.,,1
(2)
P~.,.r=~,,/.2+~,.,.2~~,.,+B,.,.2D,.,+~,,,,,.z.
(3) where P,M,,, firms prior
144.23’ 131.40’ 148.32f 130.89’
-
0.392 0.257 0.306 0.343
three regressions.
-
3.84’ 2.38’ 2.87’ 3.12’
96 86 87 83
respectively:
+P*.,.rDi.*+EI.,.r.I,
~.,.,=~L,.3+YL,.3PI,.,.l+8,.,.34,+~L,.~.3.
is the performance of company i measured in terms of performance index j in year 1. and Pl,, are the corresponding performance measures for the economy and for the other in the it&&. respectively. D,,, ISa shift variable that takes the value of zero for the years to the call and one for the years subsequent to the call. P, ,,I
hThe likelihood ratios are used to test whether the coefficient of the shift variable fi,,,,k different from zero. Under the null hypothesis, these ratios have a chi-square distribution. by its standard error ‘P,. ,, !. is standardized across all firms to produce $,, i(, which. under ‘The
is
and these values are then summed and averaged the Central Limit theorem. is distributed normal.
z-statistic.
‘V = number ‘Significant
of calls. at the 1% level
are indeed unexpected and that the market perceives them as signals of bad news. Second, we analyze the common stock monthly returns during the sixty months following the call. We do this to determine whether the unfavorable information is captured immediately in share prices or whether more unexpected bad news is revealed in subsequent periods. The Wall Street. Journal Index is examined for the formal call announcement date and for any prior announcements. The trading day before the
100
A.R. Ofer and
A. NataraJan, Concwtlble
call pokes
earliest announcement date is specified as the call announcement date or the event date and is identified as day 0 in our analysis. In thirty cases, no date is ascertainable from either the Wall Street Journal Index or Standard and Poor’s Bond Record. and these calls are dropped from this part of the analysis. The final sample for the evaluation of the market reaction to call announcements consists of 111 calls. Elimination of seventeen companies with missing data during the estimation period before the call announcement, as well as two calls made by companies that had called other convertible debt earlier in the same fiscal year, reduces the sample used in the analysis of monthly returns to ninety-two companies. Daily and monthly stock return data for the companies are obtained from the CRSP tapes. The CRSP daily and monthly equal-weighted indices are used as a proxy for the market return. The statistical procedure used to identify excess returns is described below for both daily and monthly returns. The single-factor market model is taken as the characterization of the rate of return on a stock:
(15) where t is the time unit over which the return is calculated, either a month or a day; R,, is the continuously compounded rate of return on stock i for period t; R,, is the continuously compounded rate of return on the market for period f; and E’is the random error for stock i for period t. The parameters (Y,and p, are estimated for each stock over a period before the call. For the daily returns analysis, the estimation period begins at day - 80 and ends with day - 21. For the monthly returns analysis, the estimation period begins at month -61 and ends with month -2. The estimated market model parameters are then used to calculate the residuals over the estimation period and the excess returns over the event period. To test for significance the procedure described in Pate11 (1976) is used. The excess returns for each firm are standardized by two factors: (i) the estimated standard deviation of the residuals during the estimation period and (ii) a factor that adjusts for predicting returns outside the estimation period. Assuming that the individual standardized excess returns are cross-sectionally independent, the average standardized excess return, ASR,, has a unit-normal distribution. To test the null hypothesis of a zero mean excess return, the statistic it is used: zl,= ASR,
f r-l
(7’- 2)/(7--4)
1I “’
,
06)
where T is the number of observations in the estimation period. The squared standardized excess returns can be used to test for a change in the variance of the excess returns given that the mean of the excess returns is zero. The statistic zZ, which is used to test for a shift in variance, has a
A R. Ofer
unit-normal
distribution
101
und A. NararaJun, Concerrrbie call polrcm
and is calculated
=2r =(ASSR,-1)
f
as
2(7--3)/(T-6)
(17)
r=l
where ASSR, is the average squared standardized The cumulative average excess returns are defined
CAR,=
i AR,, r=j
excess return as
for period
t.
(1%)
where AR, is the average excess return in period t and / and / are the first and last month in the cumulation period, respectively. To test for significance, the cumulative standardized excess returns for firm i are normalized by dividing by the number of months in the cumulation period. The normalized cumulative standardized excess returns are summed across firms. Assuming that the individual standardized excess returns are independent, the statistic z3 is used to test the null hypothesis of zero cumulative excess returns:
zJc= CSR,
‘[
5 (T1=1
l/2
2)/(T-
4)
,
(19)
I
where CSR, is the sum of the normalized cumulative standardized excess returns across nc firms with cumulative returns available in period c“. Table 4 presents the results of the analysis of share-price reaction to call announcements. The table reports the average excess returns, AR, average standardized excess returns, ASR, the average squared standardized returns, ASSR, and their corresponding z-statistics. In addition, to provide a distribution-free test for the variables of interest, ASR and ASSR, a jackknife procedure is employed. The jackknife procedure splits the total sample into arbitrary equal-sized subsets by deleting one observation at a time and computes n estimates of the sample mean. These sample means are then used to calculate a jackknifed mean, standard error, and t-statistic. The cumulative price drop on the announcement day and the following day is 0.09%. The average cumulative excess return over the forty-one-day test period is - 0.6%. whereas it is - 1.7% over the five-day period from day - 1 to day +3. An examination of the squared residual statistics reveals only two days with significant t-statistics at a 1% level for the two-tailed test: these are day 0 (the call announcement date) and day +l (the day following the call announcement). This indicates that there is a market reaction to the call announcements. The nature of the market reaction can be determined through
A. R. Ofer and A.
107
.Yafaru~an. Concernble
call policres
Table 4 A\eragc excess returns (.A R 1. average standardized excess returns ( .-ISR ). and aterage squared standardized excess returns ( ASSR) for forty-one days surrounding the announcements of 111 calls of convertible bonds between 1971 and 1980. ARh
Day”
-
20 - 19
- 18 - 17 - 16 - 15 - 14 -13 - 12 - 11 - 10 -9 -X -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 : 7 8 9 10 11 12 13 14 15 16 17 18 19 20
-
-
-
-
ASRh
0.002
0.152
0.004 0.001 0.001 0.002 0.003 0.00’ 0.000 0.005 0.001 0.001 0.002 0.002 0.003 0.001 0.003 0.004 0.000 0.001 0.002 0.002 0.009 0.004 0.001 0.002 0.002 0.000 0.001 0.002 0.001 0.000 0.002 0.000 0.003 0.001 0.001 0.003 0.002 0.001 0.004 0.001
0.176 0.068 0.056 0.095 -0.12Y 0.024 0.034 0.230 - 0.063 - 0.107 0.138 -0.110 - 0.222 0.071 0.139 0.167 0.011 0.080 -0.018 -0.114 - 0.499 -0.183 -0.100 -0.148 -0.113 - 0.049 0.095 0.035 - 0.032 0.005 - 0.090 0.036 -0.121 0.027 - 0.005 -0.135 0.085 0.003 0.205 - 0.048
I’
Id
AS.SRh
:’
P
1.589 1.840 0.711 0.585 0.996 - 1.342 0.251 0.353 2.403 - 0.656 - 1.107 1.446 - 1.152 - 2.312 0.738 1.450 1.746 0.118 0.834 -0.190 - 1.188 - 5.200 - 1.904 - 1.041 - 1.545 - 1.179 - 0.514 0.990 0.362 - 0.334 0.052 - 0.930 0.378 - 1.270 0.286 - 0.049 - 1.406 0.883 0.032 2.137 - 0.502
1.350 1.702 0.657 0.542 0.943 - 1.537 0.2’6 0.374 2.019 - 0.681 - 1.023 1.489 - 1.153 - 2.380 0.624 1.640 1.586 0.120 0.506 -0.112 - 0.841 - 3.465 - 1.822 - 0.943 - 1.590 - 1.043 - 0.574 0.876 0.3Y5 - 0.321 0.045 - 0.930 0.437 - 1.229 0.245 - 0.048 - 1.322 0.816 0.030 1.888 - 0.539
1.238 1.211 1.188 1.180 1.136 0.7Y2 1.244 0.905 1.487 0.942 1.238 0.964 1.021 1.004 1.422 0.810 1.254 0.964 2.754 2.901 2.057 2.527 1.137 1.243 0.977 1.306 0.813 1.301 0.854 1.096 1.362 1.039 0.773 1.096 1.382 1.088 1.161 1.190 1.112 1.338 0.879
1.559 1.388 1.201 1.141 0.828 - 1.641 1.605 - 0.833 3.350 - 0.567 1.495 - 0.410 0.004 -0.124 2.885 - 1.517 1.676 - 0.409 12.452 13.509 7.465 10.820 0.836 1.59Y -0.317 2.048 - 1.492 2.010 - 1.195 0.542 2.454 0.131 - 1.771 0.541 2.591 0.481 1.009 1.216 0.651 2.276 - 1.020
0.643 0.856 1.050 0.920 0.498 - 1.549 0.541 - 0.699 1.252 - 0.431 1.308 - 0.236 0.134 0.027 1.136 - 1.270 1.028 - 0.205 1.009 1.190 2.953 3.377 0.837 0.997 -0.111 1.213 - 1.430 1.200 - 1.151 0.465 1.450 0.189 - 1.607 0.358 1.183 0.538 0.766 0.888 0.623 1.472 - 0.890
“Trading day prior to the earliest announcement is specified as day 0. hExcess returns are based on market model parameters estimated over days - 80 through - 21. ‘The :-statistic. ‘The r-statistic is generated with a jackknife method.
A. R. O/H and
Conwrtrble
A. .Vuturapn.
call pokes
103
/
4.
-.o.o
+:::::.~::-+::‘::C_CC::::::x3
1
5
9
13
17
Yonth
21 in
25
relation
29 to
33 Call
37
41
Announosmrnt
45
49
53
57
Date
Fig. 1. Average excess returns following the announcement of calls of convertible bonds between 1971 and 1980. Excess returns are based on market model parameters estimated over months - 61 to -2.
the average standardized residuals ( ASR). On day + 1 and day + 2, the ASRs are negative and significant at the 1% an d 10% levels, respectively. In terms of magnitude, the ASR on day +I is more than twice the size of the same statistic on any of the other forty days. The significant negative market reaction to the call announcement supports the hypothesis that the calls signal unfavorable information about the firms’ prospects. The results in table 4 are consistent with those reported by Mikkelson (1981)’ The analysis of the returns to common shares during the sixty months following the call indicates significant negative abnormal returns. During most of the period analyzed, the average excess returns, AR, and the average standardized excess returns, ASR,‘are negative. Whereas eleven months out of the sixty have a negative and significant (at a 5% level or better) ASR, none of the ASRs are positive and significant. The average monthly residuals are presented in fig. 1. Table 5 reports the cumulative average excess returns, CARS, and the z-statistics for the normalized cumulative standardized excess returns, CSRs, for different holding periods. The CARS for all the holding “Mikkelson’s event date is the date on which and is equivalent to our day + 1.
Journul
the announcement
appears
in the Wall Srreet
A. R. Ofer and A. NararaJan. Conoerrrble cull pohcies
104
Table 5 Cumulative
following
averrtge excess returns
the announcement
(C.4 Rs) and :-statistics during different holding periods. of calls of comeruble bonds between 1971 and 1980 (in percentages). .L
@
3.96’ 6.21’ 7.39e 8.54’ 7.21e
87 81 79 76 56
CARb
Months”
-
l-12 l-24 l-36 l-48 l-60
11.15 24.16 39.44 57.65 72.61
‘Month 1 is the first moc;:l following the call announcement. ‘Excess returns are based on market model parameters estimated over months -61 through _ 2. The percentage of negative residuals in a given month ranges from 437 to 70%. with a mean value of 53.9%. ‘The z-statistic is equal to the sum of the normalized cumulative standardized excess returns across all firms divided by (I:_, (7 - 2)/( T - 4))“‘. where ir is the number of obsemations in the estimation period and n IS the number of tirms. dN = the number of firms in the sample with returns available during cumulation period. “Significant at the 1% level.
periods- are negative. More important, the z-statistics for the cumulative standardized excess returns are negative and significant at the 1% level. To ensure that these results are not caused by outliers, we examine the distribution of the normalized cumulative standardized excess returns for individual firms. Out of the ninety-two calls, sixty-six have a negative CSR. Twenty-two firms have a CSR less than - 1.96, and only three firms have a CSR greater than 1.96. The distribution of the CSRs indicates that these results are not driven by a few outliers. 9 Furthermore, replicating this analysis, using the mean-adjusted and market-adjusted models to estimate the excess returns, yields similar results.” The significant negative monthly excess returns during the sixty-month period indicate that more unexpected and unfavorable information is revealed to the market after the calls. These results present a puzzle. The significant negative CARS are consistent with the unexpected decline in accounting performance these firms experience during the same period, and they are also consistent with the hypothesis that calls of convertible bonds signal bad news. These results also imply, however, that the information signaled by the calls is not fully incorporated into the share price at the time of the call announcement.” To this extent, these results suggest a market inefficiency. An altemative explanation for the negative CARS is that there is a shift in the mean ‘The results cannot be attributed to a shift in beta. The average was 1.037 and the average beta in the test period was 1.090. “See
Brown
and Warner
(1985) for a discussion
beta in the estimation
period
of these models.
‘t In this respect, it is interesting to note that results in table 2 indicate that the largest drop in profit growth rates occurred in the third and fourth years following the call.
A. R. Ofer and A. NararaJan. Concertlble
call policies
10s
return and that the benchmarks we use in the analysis are inappropriate. resulting in an over-estimate of the normal rate of return for these securities. 4. Summary Previous studies of convertible bond calls showed that firms tend to delay such calls. and that call announcements are associated with significant negative common stock returns. Several explanations have been offered for this phenomenon. The results in previous studies are not sufficient. however. to differentiate among different hypotheses regarding the motivation for the calls and the share price reaction to their announcement. This paper presents evidence that supports the information-signaling hypothesis. This hypothesis postulates that calls of convertible bonds signal new and unfavorable information to investors in the market. For a signal to be effective, the information it conveys must materialize at some point. If calls of convertible debt are motivated by, and convey. new unfavorable information about the firm’s prospects, we should observe an unexpected decline in the firm’s performance in the years after the call. Performance is defined as the relative change in a profit variable, and four profit variables are used in the analysis. To ensure that the results are independent of model specification, three models are used to identify the unexpected change in performance. All three models identify statistically unexpected declines in performance for all four profit variables after the calls of convertible debt. Although the various tests are not independent. the consistency of the results across three models and the fact that the unexpected decline in performance is identified also for performance indices that are not affected by the conversion attests to the robustness of our results. Taken together. the significant decline in performance after the call of convertible bonds. the significant negative common stock returns associated with the announcement of the call, and the significant cumulative abnormal returns following the call support the hypothesis that calls are motivated by new unfavorable information. The significant negative cumulative residuals subsequent to the calls suggest market inefficiency, They imply that the information signaled by the calls is not fully incorporated into share prices at the time of the announcements and that more unexpected and unfavorable information is revealed to the market after the calls. Alternatively the negative cumulative returns can be the outcome of overestimating the normal rate of return for these securities during the period after the call. In recent years the notion of asymmetric information and signaling equilibrium has become important in economic and financial theory. Few studies have examined the empirical content of this concept. Our study provides a direct evaluation of a signaling hypothesis, since an unexpected decline in performance after the call is inconsistent with other proposed explanations and is consistent with the information-signaling hypothesis. The results of our analysis support this hypothesis for calls of convertible bonds.
197X OS/12/71 OX/l s/79 04/26/71 06/W/71 08/07/X0 12/21/71 05/1Yj77 1976 0X/02/79 02/02/72 02/26/71 1974 06/l 3/75 04/05/77 12/21/7Y &I/24/72 19x0 01/1x/73 12/l l/80 197X 1976 1976 06/20/77 11/20/x0 01/17/x0 IY71 OY/OX/7X 1 l/01/73 OX/l s/7’) 01/l X/72 1978 0X/26/77
Aero-Flow Dynamics Akzona Inc. Alaska Airlines Amerada Hess American Air Filter American Hospital Supply AMR Corp Apco Oil APL Corp AVCO Corp Ranister Continental Banister Continental Bausch and Lomb Baxter Labs. Bcauni t (El Paso Co) Beech Aircraft Big Three Industries Burlington Northern Burroughs Corp Iluttcs Gas and Oil Collins and Aikman Copperweld Corp. Core Laboratories Crystui Oil Development Corp. of America Digital Equipment Corp Eastern Airlines Eastern Airlines Echlin Manufacturing Eckerd (Jack) Co Ehrenreich Photo-Optic El Paso Natural Gas El Paso Natural Gas
Name of company
Announcement date
List of sample companies
making call
Appendix Table 6 calling convertible
call
Macy (R.H.) Inc. Macv (R.H.) Inc. Map;; Inc. Marindique Mining Martin Marietta Masco Corp McCulloch Oil McCulloch Oil McDermott (J. Ray) Mesa Petroleum MGIC Investment MGM Inc Microdot Missouri Pacific Mohawk Data Sciences MSL Industries National Can National Health Enterprises National Medical Enterprises National Starch and Chemicals NCR Corp Newhall Land and Farming Northrop Oak Industries Occidental Petroleum Pan American World Airways Pan American World Airways Patrick Petroleum Pahall Inc Pengo lndustries Penney (J.C) Philip Morris Pillsbury Co
making
1971 and lYX0.
Name of company
debt between
1Y71 12/01/7x 0x/30/7x 07/03/74 0x/17/7’) 0X/06/X0 03/20/7Y 03/03/77 0x/23/7x 01/17/x0 I Y77 02/l 3/x0 05/10/77 0x/30/7x OY/l2/7X 07/l 7/X0 06/l X/76 12/30/X0 1971 1Y74 07/l l/75
02/06/76
I973 06/l 3/7X I Y72 05/01/74 07/2X/7X 06/l 5/72 02/10/72 12/11/7Y 12/lY/73 05/14/71 12/22/72
Announcement date
? 2 G s 2 =z % % S’ 5
P
%
:
Q 2 % ra i $
z ‘?
Elgin National Industries Empire Gas Enstar Corp Essex International Esterline Corp Evans Products First Union Real Estate Fischer and Porter Fischer Scientific Florida Gas Co. Forest City Enterprises FR Liauidatinr Fuqua’Indus& Gelco carp General Instrument (;corgia Pacific (;rorgia Pacific Grainger (W.W) Grow Group (;rtmmlan Carp (;ulf & Wcstcrn (iulf & Wcbtcrn Industrica (iulf Life lloldings Gulf Resource and Chemicals Harrahs I Ielmerich and Payne Hcublin Inc flocrner-Waldorl Hughes Tool lnsilco Corp ltel Carp I ccl carp K Marl Kaufman Broad Inc Kerr-McGee Corp Leslie F;ly Inc. LTV Corp Ol/j17/73 06/20/75 0X/16/78 12/04/75 03/14/72 lY77 11/20/X() 09/25/X0 02/16/77 06/20/77 01/l l/73 04/24/72 0X/22/12 1Y71 0X/06/76
ol/3o/xo 01/22/76 IYXI
05/04/79 01/27/76 I l/23/76 07/18/72 11/24/X()
1976 02/22/7Y 11/30/7Y 1976 06/24/X0 09/21/77 06/22/7Y 1972 19x0 05/l 3/71 Oh/l 3/7Y 06/23;XO 05/01/72 ‘197X Pizza Hut I’neumo Carp Prime Computer Republic National Bank (N.Y) Rohr Industries Rowan Cos. Ryder System Inc. Sabine Corp Santa Fe International Santa Fe International Saxan Industries Scotty’h Inc. Seiscom Delta Shearson Loch Rhocrdcs Southeast l)ancorp Sperry Corp Standard Oil (lndiami) Stauffer Chemical Sun Electric Simdstrand Carp Sumhine Mining Tandy Corn. Tand; CO&J. Tenneco Corp. Tidewater Tyler Corp Tyler Corp UAL USAIR Wainoco Oil Wallace-Murray Wahnart Store5 Warner Brother+7 Arts Welded Tube Corp of America Western Union Carp W illiamr Bras Williams Cos. Zapata Carp 1Y71 19x1 0X/24/7’) 10/31/77 05/27/76 12/20/71 12j14;7x 08/25/7X 06;21;78 06/l 5/7X II/IX/77 OY/21/72 01/26/76 03/2Y/72 02/OY/7 I I l/05/73 01/2x/x0
19x0
IY71 07/03/X(1 03/10/72 11/26/X0 1Y72 12/14/72 OX/2Y/XO 19x0 10/04/73 01/30/x0 10/31/74 10/22/15 OY/I2/77 10/20/x0
I2/ I x/x0
07/22/76 05/ 1Y/77 02/04/X0 OX/OY/7X 1913
108
A. R. Ofer and A. ,Vumru~an. Conwrtible call pohes
References Brennan. Michael J. and Eduardo S. Schwartz, 1977. Convertible bonds: Valuation and optimal strategies for call and conversion. Journal of Finance 32, 1699%17:j. Brennan. Michael J. and Eduardo S. Schwartz. 1982, The case for convertibles. Chase Financial Quarterly. 27-46. Brown. Stephen J. and Jerold B. Warner. 1985. Using daily stock returns: The case of event studies. Journal of Financial Economics 14. 3-31. Constantinedes. George M. and Bruce D. Grundy, 1985. Call and conversion of convertible corporate bonds: Theory and evidence. Working paper (University of Chicago. Chicago. IL). Dunn. Kenneth B. and Kenneth M. Eades. 1984, Voluntary conversion of convertible preferred stock and the optimal call strategy. Unpublished manuscript (Carnegie-Mellon University. Pittsburgh. PA). Harris, Milton and Artur Raviv. 1985. A sequential signaling model of convertible debt policy, Journal of Finance 40. 1263-1281. Ingersoll. Jonathan E. Jr.. 1977~1. A contingent claims valuation of convertible securities, Journal of Financial Economics 4. 289-322. Ingersoll. Jonathan E. Jr., 1977b. An examination of corporate call policies on convertible securities, Journal of Finance 32. 463-478. Mikkelson, Wayne H.. 1981, Convertible calls and security returns. Journal of Financial Economics 9. 237-264. Mikkelson, Wayne H., 1983, Capital structure changes and decreases in stockholders’ wealth: A cross-sectional study of convertible security calls. Working paper no. 1137 (National Bureau of Economic Research, Cambridge, MA). Patell, James M., 1976. Corporate forecasts of earnings per share and stock price behavior: Empirical tests. Journal of Accounting Research 14, 246-276. Schwert. G. William, 1981. Using hnancial data to measure the efi’ects of regulation. Journal of Law and Economics 24. 121-158. Smith, Clifford W. Jr., 1986. Investment banking and the capital acquisition process. Journal of Financial Economics 15. 3-29.