The Effects of Restructuring Charges on Stock Price and Analyst Forecast Accuracy A dissertation submitted to the Kent State University Graduate School of Management in partial fulfillment of the requirements for the degree of Doctor of Philosophy by Mary Hilston Keener May 2007 ACKNOWLEDGEMENTS I wish to thank my dissertation committee of Dr. Linda Zucca, and Dr. Michael Hu, and especially Dr. Ran Barniv, my committee chair, for their support and guidance in completing this dissertation. Also, I extend my thanks to Dr. Michael Ellis and Dr. Richard Kolbe who served as the graduate faculty representative and the moderator, respectively, during the final defense of this dissertation. I also wish to express gratitude to my parents, Tom and Jane Hilston, for their love, support, and encouragement throughout my life and in particular during my PhD program. In addition, I wish to thank my in-laws, Bob and Althea Keener, for their support as I have worked on my dissertation. I wish to thank my older brother, John, his wife, Dana, my younger brother, Chuck, and the rest of my family and friends for being extremely supportive and caring throughout my many years in school. I would like to extend special thanks to my husband, Jason, and my son, Peyton Robert. Peyton, thanks for understanding how busy Mommy has been since you arrived in April. Jason, without your endless encouragement, kindness, and love, I would never been able to complete this dissertation. This dissertation is dedicated to Jason and Peyton. ii TABLE OF CONTENTS Page Chapter 1 INTRODUCTION..………………………………………………... 1 1.1 Background and Purpose…………………………. 1 1.2 Types of Restructurings………………………….. 3 1.3 Hypotheses and Models………………………….. 3 1.4 The Importance of This Dissertation……………. 5 1.5 Summary…………………………………………. 6 Chapter 2 LITERATURE REVIEW………………………………………... 8 2.1 Introduction………………………………………. 8 2.2 (Essay 1) Financial Distress and Bankruptcy Literature…………………………………………. 16 2.3 (Essay 2) Value Relevance of Restructuring Charges 21 2.4 (Essay 3) Analyst Forecast Literature……………. 29 2.5 Summary………………………………………… 38 Chapter 3 ESSAY 1: DIFFERENCES IN FINANCIAL HEALTH FOR FIRMS TAKING RESTRUCTURING CHARGES 3.1 Background……………………………………. 41 3.2 Importance of Examining Financial Health…….. 42 3.3 Hypothesis Development……………………….. 43 3.4 Data Sources and Methodology………………… 43 iii 3.5 Empirical Results……………………………….. 51 3.6 Conclusions……………………………………... 57 3.7 Bibliography……………………………………. 59 Tables…………………………………………... 61 Chapter 4 ESSAY 2: THE VALUE RELEVANCE OF RESTRUCTURING CHARGES FOR FIRMS WITH VARYING LEVELS OF FINANCIAL HEALTH 4.1 Introduction…….………………………………. 81 4.2 Importance of Restructuring Charges…….…….. 81 4.3 Hypothesis Development……………………….. 84 4.4 Data Sources and Methodology………………… 85 4.5 Empirical Results……………………………….. 90 4.6 Conclusions……………………………………... 98 Bibliography……………………………………. 100 Tables…………………………………………… 103 Chapter 5 ESSAY 3: THE IMPACT OF RESTRUCTURING CHARGES ON ANALYST FORECAST ACCURACY, BIAS, AND REVISIONS 5.1 Background……………………………………… 116 5.2 Impact of Restructuring Charges on Analyst Forecasts…….…………………………………. 118 5.3 Hypotheses Development……………………….. 122 5.4 Data Sources and Methodology………………… 123 iv 5.5 Empirical Results……………………………….. 134 5.6 Conclusions……………………………………... 143 Bibliography……………………………………. 145 Tables…………………………………………… 150 Chapter 6 CONCLUSIONS………………………………………………… 169 6.1 Background, Purpose and Results……………… 169 6.2 Limitations……………………………………… 171 6.3 Future Research………………………………… 172 BIBLIOGRAPHY……………………………………………….. 173 v LIST OF TABLES Essay 1 Tables 1 Final Sample Determination………………………………………………………….............. 61 2 Firms in Sample Split by Year and SIC Division……………………………….…….……… 62 3 Descriptive Statistics for Full Sample....………..……………………………………..…........ 64 4 Distress Classification Contingency Tables…………………………………………………... 66 5 Descriptive Statistics for Observations Classified the Same by Both Models..…………........ 67 6 Independent Sample t-tests and Wilcoxon Z-statistics for Mean Differences Between Sample Firms …………................................................................................................... 69 7 Independent Sample t-tests and Wilcoxon Z-statistics for Mean Differences Between Sample Firm-Events …………......................................................................................... 71 8 Ohlson (1980) Logistic Regression Model Results for Distressed and Non-Distressed Companies for All Firms……………………….…………………………………......... 73 9 Ohlson (1980) Logistic Regression Model Results for Distressed and Non-Distressed Companies for All Firm-Event Observations…………….…….………………………. 74 10 Predicting Bankruptcy Using Equation 1.4 for Those Restructuring Firms Classified as Distressed………………………..……………………………………………………… 75 11 Predicting Bankruptcy Using Equation 1.4 for Those Restructuring Firm-Event Observations Classified as Distressed………………….….…………………………… 76 12 Predicting Bankruptcy Using Equation 1.4 for All Restructuring Firms……………………..77 13 Predicting Bankruptcy Using Equation 1.4 for All Restructuring Firm-Event Observations.. 78 14 Modified Ohlson Regression Model Results for Multinomial Logistic Regression Model for All Firm-Event Observations with Different Classification Groups...........… 79 Essay 2 Tables 1 Final Sample Determination…………………………………...….…………………......….. 104 2 Firms in Sample Split by SIC Division ……...…………………………………..………….. 105 3 Descriptive Statistics………………......………..……………………………...…….……… 106 4 Price and Return Model Regressions for Firms……………………………………………... 108 5 Price and Return Model Regressions for Firm-Event Observations….……………………... 110 6 Regressions of Three Versions of the Price Model for Firms………………………………. 112 7 Regressions of Three Versions of the Return Model for Firms………………..……………. 114 Essay 3 Tables 1 Final Sample Determination…………………………………………...............…...……….. 151 2 Firms in Sample Split by SIC Division ……...…………………………………..………….. 153 3 Descriptive Statistics for Full Sample....………..…………………………………………… 154 4 Descriptive Statistics for the Analyst Forecast Accuracy and Bias Portion of the Essay..….. 155 vi 5 Univariate Data on Forecast Errors for the Year Before and the Year After Restructuring Charges..………………………………………...………………………………..…… 156 6 Regressions of Equation (3.5) where h=1 with Firm-Quarter Observations ......................… 157 7 Regressions of Equation (3.5) where h=2 with Firm-Quarter Observations ......................… 159 8 Regressions of Equation (3.5) where h=3 with Firm-Quarter Observations ......................… 160 9 Regressions of Equation (3.5) where h=5 with Firm-Quarter Observations ......................… 161 10 Regressions of Equation (3.7) for All Firm-Year Observations: Accuracy ......................… 162 11 Regressions of Equation (3.8) for All Firm-Year Observations: Bias ..............................… 164 12 Regressions of Equation (3.8) for All Firm-Year Observations: Positive Bias ................… 166 13 Regressions of Equation (3.8) for All Firm-Year Observations: Negative Bias ..............… 168 vii CHAPTER 1 INTRODUCTION 1.1 Background and Purpose This dissertation presents three essays that examine the usefulness of reported operational restructurings to corporations, financial analysts, and investors. The main theme that binds the three essays is that, depending on the financial health of the firm taking the charge, each represents an empirical study of how restructuring charges differentially impact various user groups. While each of the three essays can be read independently, together they address specific significant issues in the more general area of the effects of restructuring charges on firms. Because restructurings have become “a staple of management life during the past decade” (Bowman et al. 1999), this dissertation is quite relevant to the accounting profession. In just the first three months of 2006, many major companies including Hewlett-Packard, Ford, Kraft, Del Monte, and Xerox have announced operational restructuring efforts, and this attests to the timeliness of the findings in this dissertation (Lawton 2006, McCracken and White 2006, Ellison 2006, Berman 2006, Bulkeley 2006). Daniels et al. (1995) define a restructuring as typically involving a firm-level action where personnel are terminated, product lines are eliminated, and assets are disposed of. By examining the effects of restructuring announcements on analyst forecasts and the impact of restructuring charges on price, this dissertation sheds some light on the usefulness of operational 1 2 restructurings to firms. Kross et al. (2001) define operational restructurings as typically involving the asset side of the balance sheet and debt and equity restructurings as typically involving the right-hand side of the balance sheet. This dissertation examines only operational restructurings. Operational restructurings are multi-dimensional corporate changes undertaken by companies usually to either improve efficiency or to avoid filing for bankruptcy. Operational restructuring projects typically include some combination of workforce reductions, asset writedowns, the disposal of certain assets and facilities, product line discontinuations, the reconfiguration of facilities, plant relocations, or the closing of certain plants and facilities (Lopez 2002).1 This dissertation separately examines several groups of firms. In particular, it compares firms in financial distress that operationally restructure in an attempt to avoid bankruptcy with financially healthy firms that restructure