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Discuss how accounting disclosures affect the capital market perception of the firm and provide evidence of whether the information in these disclosures is informative as well as value-relevant. Your discussion should explore the variety of sources of disclosures, such as disclosures by the firm and by analysts, and factors that may affect the market reaction to these disclosures.

Read the attached Telegraph article discussing the message provided by Tesco’s new CEO, who took up his new post on September 1st, 2014. The appointment of the new CEO came following drops in profits in the past few years. Refer also to the provided 2014 Tesco annual report and prepare the following:

  1. Provide evidence as to how the market reacted to the announcement of the appointment of the new CEO in the 3 day window around the announcement (days -1, 0, 1). This evidence can be shown in a tabular or a graphical form. You should compare the price change in Tesco to the overall market price changes in those same days (FTSE100).

  2. Discuss the possible reasons behind the reaction of the investors, if any, and in particular refer to Tesco’s corporate governance as well as the executive remuneration before the new appointment and how it may have affected the reaction. In your analysis, you should also refer to the industry of the company and any other economic or regulatory factors you deem important

Market response to Accounting Disclosure

Accounting disclosure effecting the capital market perception of the firm: 

Accounting disclosure is related with the revealing the information to the capital market. Accounting disclosure is not concerned with discovering the information by the firm. Disclosure assumes that the information is before-hand known to the entity disclosing information (Miller and Skinner 2015). Accounting disclosure is related to external parties and the disclosure is regarding the company’s economic transactions and information about the cash flows which is already held by the firm’s managers.

Given the problems of asymmetry of information, there has been growing number of calls for firms to improve the accounting disclosure of intellectual capital as it helps in improving the market understanding of the company’s value creation procedure and facilitating the more precise firm’s valuation. The relationship amid the accounting information and the capital markets has long been the matter of extensive study. The purpose of this study is to examine how the accounting information affects the capital market.

According to Park, Chae and Cho (2017) the relationship among the accounting information and capital market has engrossed substantial amount of attention to an extent that is possibly very highly prevalent issues in the work of accounting. The importance in this matter is genuine, assumed that the normally recognized accounting report are directed at offering the stakeholders with the appropriate information for making decisions related to shares. Even though the information of accounting is used in numerous context such as process of contracting inside the company or amid the firms and its creditors and contractors relating to the capital markets, such information are hypothetical to ease the forecast of the company’s future cash flows. They are also assigned to assist the investors in assessing the future securities risk and return.   

The main purpose of researching on the capital market is to evaluate whether the bookkeeping data that is provided is value relevant statistics to the investors and incremental to all the other source of information that is available in public (Qiu, Shaukat and Tharyan 2016). The information containing the accounting number is concluded from the variations in the level or otherwise the inconsistency of the stock prices and inferred from the variations in the level or in the inconsistency of the stock values and from the alterations in the shares that is traded over the period of short time in which the data is released in public. If the capital market is efficient, share prices should reflect the complete and newly released information (Li 2015). As a result, variation in the share prices or alterations in the security traded is anticipated during the publication phase given that the released numbers deliver new info to the participants in the market regarding the sum or improbability of projected future cash flows. The informative content of earning is concluded from the abnormal mean returns or from the variations in the size of trading over the short period of announcing data.

The information content of specific accounting data

Since the sum of incomes is futile, such amount should be contrasted with the market anticipations regarding the incomes. Under the hypothesis information-subject, positive unanticipated earnings may on average result in positive irregular returns and negative unanticipated incomes with positive unanticipated earnings (Harrison and Smith 2015). It also reveals statistically negative for firms that have unanticipated earnings.

As the accounting figures are reported by firms all through the year Christensen, Hail and Leuz (2016) proposed to conduct an examination of the incremental data content of bookkeeping proceedings for better understanding of how the shareholders route the accounting information. Study conducted on 120 randomly chosen UK companies shows that both the introductory and provisional announcement have the highest number of information content. The accounting disclosure of firms unveils noteworthy content of information. In contrast to this, the price effect of the annual general meetings appears to the insignificant. The correlation tests reveal that abnormal returns related with the introductory earnings pronouncement were related positively to the abnormal return both at the provisional disclosure and firms annual accounting disclosure dates. This provides a suggestion that firms which unveil higher preliminary informative announcement also tends to possess highly informative accounting reports and interim accounting disclosure.

According to the investigation conducted by Macve (2015) info content of present cost information disclosed by numerous businesses listed on the London Stock Exchange shows that such information has small but real effect on the stock returns. As the market reaction to the accounting disclosure varies among the firms, several studies have assessed the possibilities of determinants of such differences. Results of the studies shows that volatility in returns or the abnormal mean return is positively associated with the size of unanticipated yearly or interim earnings.

Researchers such as Maynard (2017) theorize that companies select the accounting programs or take into the consideration the flexible accruals in accounting to reveal the secluded information of the management regarding the forthcoming prospects. If it is found that the discretionary accruals are actually informative then the irregular stocks return around the financial statements release must be associated to the sign and amount of earnings that originates through manipulations.  

The efficient market hypothesis explains that the share prices must react promptly and totally to any form of value-relevant information and the subsequent changes in price must not be associated to such reactions (Martin and Roychowdhury 2015). In contrary to such hypothesis, numerous empirical studies have represented that stock price reactions on the incomes publication date is unfinished, this is because prices adjust progressively to the new info. As the abnormal returns have the identical sign as the unanticipated earnings, investors appear to underact to the information that is contained in the earnings.

The different event studies have concentrated on the reaction of market to the accounting disclosure in short time period, the associated studies assess the connection amid the stock returns and bookkeeping disclosure over the long period (Hoitash, Hoitash and Yezegel 2017). While the previous studies have examined accounting data role in offering incremental info which may create an impact on the perception of investors over the forthcoming prospects of the firm, the latter offer the evidence regarding the part of these information in the form of summary of the events that have impacted firms throughout the reporting period.

In opposed to the studies related to market reaction, related studies do not provide any casual association among the secretarial facts and stock values. They hardly assume that the participants in the market make the use of accounting information in their course of valuation (Macve 2015). They only theorize that if the accounting information provides the measures of worthy summary of occasions combined in the price of shares, they are value relevant since their usage might provide the firm with value which is near the market value.

According to Maynard (2017) differences in conservative earnings amid the two groups is largely associated to the circumstance that managers that are more risk opposed, expect the recognition of bad news while the co-efficient of good news are significant for the risk averse managers. Whereas the bad news is more significant for the risk opposed group only. The lower association among the earnings and the returns which is undesirable earnings are not considered as value relevant as losses are anticipated to preserve indefinitely.

Preceding from the above explanation the strength of relationship amid the earnings and returns can be regarded as the measure of the value-relevant of accounting information or disclosure. Hypothesizing, that greater is the value relevance the better are accounting figures.

Conclusion: 

The empirical evidences are associated largely with the informational perspective of accounting figures which states that the accounting disclosure by firms are relevant for the purpose of valuation given the information reflects the influence on the stock prices of offer the incremental information that impact the perceptions of investors on firms. Overall, the study intended to explain how the accounting numbers and stocks returns are related to each other.  

Market reaction to the announcement of appointment of new CEO: 

Tesco PLC, through majority of its subsidiaries functions as the food general merchandise retailer. Tesco plc has announced that Dave Lewis would join the board of Tesco on 1st October as the chief executive officer by succeeding the Philip Clarke. Tesco was regarded as successful and continued its expansion till 2013 when the company faced major drop in the profit and also reported a worst performance (Wood, Wrigley and Coe 2016). Because of the poor performance in July 10, 2014 Tesco announced the appointment of new CEO. The primary purpose of this study is to examine the reaction of market on the price of share originating from the announcement of new CEO. The report would also assess the three windows period before, on and following the date of announcement.

The market reaction following the announcement of the new CEO of Tesco Plc has resulted in some changes in the price of shares (Tesco plc 2018). The below stated table 1 and table 2 reflects the changes in the market price as well as volume of trade for the Tesco prior to the date of announcement, on the day of announcement and day following the announcement. Table 1 represents the different share price of Tesco Plc with data derived from yahoo finance to serve as the data for the understanding the event.

Table 1: Table reflecting three-day Share Price of Tesco Plc

(Source: Uk.finance.yahoo.com 2018)

Table 2: Table reflecting three-day share price of FTSE 100

(Source: Uk.finance.yahoo.com 2018)

Figure 1: Figure representing share price movement of Tesco

(Source: As Created by Author)

As evident from the above stated table before the announcement the share price of Tesco PLC stood £285.0 with the volume of trade standing 15,394,100 however the price slightly increased by 1.91% on the day when the announcement was made (Wealthandfinance-news.com 2018). This led the share price to become £288.65 with volume of trade standing £49,954,000. Consequently, the share price declined by 2.37% in the next day when the announcement was made for the appointment of new CEO as the share price stood £277.35 and the volume of trade standing 34,084,400.

In comparison to the Tesco overall changes in the market price of FTSE 100 the study provides that there was the slight difference. This is because the FTSE 100 market price prior to the day of announcement stood £6,749.45 then it slightly fell to 0.31% (Turker 2018). Unlike the share price of Tesco that went up on that particular day, making the FTSE price to fall by £6,728.44 on the date of announcement. However, the price increased to £6,795.34 representing a rise of 0.99% rise in the market price while the share price of Tesco fell by 2.37% on the same day.

The appointment of new investors may enable the investors to think that the company is having the problem in future and they may react in both positive or negative way. The market reactions have significant effect on the outcome of the announcement of new CEO for Tesco Plc (Haddock-Millar and Rigby 2015). The announcement relating to the appointment of new CEO was embraced by the investors in a positive manner. The investors assumed that it would reflect an anticipation in their future cash flow and there was positive response in the share price on the day of announcement which was oboe the share price prior to the announcement day. The market reactions also included that the new leadership would help in stabilizing the organizations poor corporate governance in future and would bring a better name to the company which may interest additional investors.

The market price of the company refers to the economic price where goods and services is provided in the market place. The market price and the market value remains equal under the conditions of market efficiency and rational expectations. However, Mason and Evans (2015) pointed out that determination of market price comprises of market mix strategy and decisions related to demand. It also includes the costs and other environmental factors namely the economy, considerations resellers and the government. Ismail, (2017) additionally added certain internal factors that creates the market price of Tesco.

There are internal factors that create an effect on the market price of the company and these includes the quality of the product, leadership, quality of performance and research and development. There are some of the important economic or regulatory factors that resulted in possible reaction to the market which included inflation, demand and cost price (Tesco 2014). Tesco being the grocery company faced numerous challenges that provided the rival with the opportunity to take majority of the Tesco’s investors in the year 2014. Gauging into the annual report of Tesco 2014 there were numerous corporate governance changes that ranged from non-payment of the due amount of executive remuneration to failure in the board in meeting target. Hence, this resulted the investors to react negatively towards the market price of Tesco.

Turker (2018) explained the factors that was related to the disclosure of information by the analyst in two ways namely positive correlation and negative correlation. Positive correlation included those factors that caused market reactions due to higher volatile returns and uncertain cash flow security. Negative correlation included a possible failure of the company.

The stakeholders and the investors may possibly consider the appointment of CEO as capable of producing future success. According to Mason and Evans (2015) findings it is noticed that the press release played the vital role for the stock market since the investors reacted positively to the media information. The disclosure of media enables the investors to react upon the market conditions whether there is a good or bad news. According to findings of Kukreja and Gupta (2016) it is found that investors react to the non-routine turnovers upon the appointment of the successors from outside the firm as the new CEO of the company.

The CEO is the person that holds the vital position in the company. The CEO designs the strategy of the company to compete with the other competing firms in the financial market. The poor performance of the CEO is directly related to the share price of the company and reaction of the investors also create an impact on the company. Similarly, gauging into the financial report of Tesco it is found that no remuneration has been provided to the directors since the company has failed to meet the target and there were several changes in the corporate governance and performance of the company (Turker 2018). This included the resignation of some of the key officer signalling the problem in the company which may cause market reaction. The market reaction originating from the announcement of the Tesco’s new CEO has introduced some changes in the share price.

The appointment of the new CEO would bring Tesco with new international consumer experience and knowledge in change management, brand administration, business administration and strategy. The appointment of the new CEO would bring in fresh perspective to the company as well as new profile. The leadership of new CEO would help the company in sustaining and improving the company’s top most spot in the retail market.  

References

Christensen, H.B., Hail, L. and Leuz, C., 2016. Capital-market effects of securities regulation: Prior conditions, implementation, and enforcement. The Review of Financial Studies, 29(11), pp.2885-2924.

Haddock-Millar, J. and Rigby, C., 2015. Business Strategy and the Environment: Tesco PLC’s Declining Financial Performance and Underlying Issues.

Harrison, J.S. and Laan Smith, J., 2015. Responsible accounting for stakeholders. Journal of Management Studies, 52(7), pp.935-960.

Hoitash, R., Hoitash, U. and Yezegel, A., 2017. The Effect of Accounting Reporting Complexity on Financial Analysts. Working paper, Bently University and Northeastern University.

Ismail, I.N., 2017. The Roles of Corporate Governance and its Influances on Risk and Performance: Tesco Plc..

Kukreja, G. and Gupta, S., 2016. Tesco Accounting Misstatements: Myopic Ideologies Overshadowing Larger Organisational Interests. SDMIMD Journal of Management, 7(1), pp.9-18.

Li, X., 2015. Accounting conservatism and the cost of capital: An international analysis. Journal of Business Finance & Accounting, 42(5-6), pp.555-582.

Macve, R., 2015. A Conceptual Framework for Financial Accounting and Reporting: Vision, Tool, Or Threat?. Routledge.

Martin, X. and Roychowdhury, S., 2015. Do financial market developments influence accounting practices? Credit default swaps and borrowers? reporting conservatism. Journal of Accounting and Economics, 59(1), pp.80-104.

Mason, R. and Evans, B., 2015. The lean supply chain: managing the challenge at Tesco. Kogan Page Publishers.

Maynard, J., 2017. Financial accounting, reporting, and analysis. Oxford University Press.

Miller, G.S. and Skinner, D.J., 2015. The evolving disclosure landscape: How changes in technology, the media, and capital markets are affecting disclosure. Journal of Accounting Research, 53(2), pp.221-239.

Park, H.Y., Chae, S.J. and Cho, M.K., 2017. Controlling shareholders’ ownership structure, foreign investors’ monitoring, and investment efficiency. Investment Management and Financial Innovations, 13(3-1), pp.159-170.

Qiu, Y., Shaukat, A. and Tharyan, R., 2016. Environmental and social disclosures: Link with corporate financial performance. The British Accounting Review, 48(1), pp.102-116.

Tesco plc. (2018). Appointment of Chief Executive Officer and Trading Update. [online] Available at: https://www.tescoplc.com/news/news-releases/2014/appointment-of-chief-executive-officer-and-trading-update/ [Accessed 3 Aug. 2018].

Tesco, P.L.C., 2014. Annual Report and Financial Statements 2014. Zugriff am, 15, p.2014.

Turker, D., 2018. Corporate Governance and Social Responsibility. In Managing Social Responsibility (pp. 59-72). Springer, Cham.

Uk.finance.yahoo.com. (2018). Uk.finance.yahoo.com. [online] Available at: https://uk.finance.yahoo.com/quote/TSCO.L/history/ [Accessed 3 Aug. 2018].

Wealthandfinance-news.com. (2018). Tesco Appoints New CEO. [online] Available at: https://www.wealthandfinance-news.com/tesco-appoints-new-ceo [Accessed 3 Aug. 2018].

Wood, S., Wrigley, N. and Coe, N.M., 2016. Capital discipline and financial market relations in retail globalization: insights from the case of Tesco plc. Journal of Economic Geography, 17(1), pp.31-57.

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