Academic journal article Journal of Economics and Finance

The Reaction of Security Prices to Tracking Stock Announcements

Academic journal article Journal of Economics and Finance

The Reaction of Security Prices to Tracking Stock Announcements

Article excerpt

Abstract

This paper provides some empirical evidence on a relatively new and increasingly prevalent form of equity restructuring called tracking stock. We identify the effects associated with tracking stock announcements by excluding from our sample those announcement events that include other significant news announcements on the event date, such as announcements of acquisitions and earnings. For the 35 announcement events that fit this criteria, we find a mean abnormal return of over 3 percent in the two-day period surrounding the announced proposal to issue a tracking stock, with 30 of the 35 firms in the sample earning positive abnormal returns.

Introduction

This paper provides some empirical evidence on a relatively new and increasingly prevalent form of equity restructuring called tracking stock by examining the reaction of share prices to announcements proposing a tracking stock. By comparing returns relative to those predicted by a market model, we find a mean abnormal return of over 3 percent in the two-day period surrounding the announcement for a sample of 35 firms. Individually, 30 of the 35 firms earned positive abnormal returns. These estimates are comparable quantitatively to previous estimates of abnormal returns associated with announcements of carve-outs and spin-offs.

Tracking stock, also known as "targeted" or "lettered"' stock in the financial press, is a class of common stock that is linked to the performance of a specific business group within a diversified firm. Tracking stock was first issued in 1984, but has been more widely implemented only very recently. Six years after its introduction, a total of two tracking stocks had been issued. In the year 1999, sixteen tracking stocks were proposed, with several more rumored to be imminent.

There currently exists a relatively small literature on tracking stocks. Hass (1996) provides an excellent survey of legal issues associated with the tracking stock structure. Logue, Seward, and Walsh (1996) detail important features, of tracking stocks and find some evidence of abnormal returns associated with an announcement to issue a tracking stock, but, constrained by a very small sample of nine firms, do not conduct statistical inference. Even more recent studies, such as Billett and Mauer (2000), D'Souza and Jacob (2000), and Zuta (1999), are constrained by relatively small samples. For example, the former two studies include 18 and 12 non-acquisition related announcements, respectively, and, constrained by sample size, do not exclude announcements contaminated by other major simultaneous events such as earnings announcements that confound identification of the price effect associated with the announcement of the tracking stock. Moreover, the distributions of the relevant test statistics are justified only asymptotically. Drawing from a much larger population of 51 tracking stock announcements, this paper carefully identifies price effects associated with tracking stock announcements by excluding those announcement events that occur simultaneously with other significant announcements.

Tracking stocks possess some very unusual features relative to the product of related, but more conventional, equity restructurings such as carve-outs and spin-offs. Both carve-outs and spin-offs create a new corporate entity by distributing equity in a subsidiary outside the parent corporation. Shareholders in the new firm typically possess the rights conventionally due shareholders: the right to elect a board of directors, the right to vote on matters of significant importance, and a claim against the firm's net assets. Shareholders of a tracking stock, however, do not elect directors to oversee management of the tracked business group, nor do they have a claim against the assets of the tracked group. The primary feature that links the tracking stock to the tracked business group is a limited claim on the future earnings of that group. …

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