Aurora Borealis
1 July 2014 CFA Institute Journal Review

Technology Transactions, Announcement Effect, and Reversal: Dissecting an Anomaly (Digest Summary)

  1. Aditya Jadhav, CFA

Firms that acquire or sell technology rights encounter a return reversal anomaly, in which the price surge of the announcement period gets reversed during the subsequent 20 trading days. The authors investigate the characteristics of this anomaly and find that the reversal is confined to firms with negative stock price momentum leading up to the announcement period. These results suggest that the way a stock reacts to corporate events is a function of the stock momentum leading up to the event.

What’s Inside?

The authors investigate a return reversal anomaly in which firms that acquire or sell technology rights experience a price surge followed by a reversal. They find that between the day before and the day after the announcement day of a firm acquiring technology rights, both the buyer and the seller gain statistically significant positive returns of 1% (for buyers) and 5% (for sellers). This gain, however, reverses over the ensuing 20 trading days. This quick price reversal has no identified explanation.

The research reveals the persistence of this anomaly throughout the authors’ study period (1970–2009) after different market conditions (e.g., bull versus bear markets) and the type of firm acquiring the technology rights (e.g., low tech versus high tech) are controlled for. The authors find, however, that the post-announcement reversal is confined to firms that experienced negative stock price momentum leading up to the announcement day. Firms that had prior positive momentum experienced no post-announcement reversal.

How Is This Research Useful to Practitioners?

The past couple of decades have seen the emergence of such new technology-driven companies as Google, Facebook, and so forth. Many have become mega-capitalization companies and have acquired other companies to increase their technological expertise.

The rise in the importance of technological companies raises the question of whether their stock market values reflect their intangible R&D (research and development) capital. When a firm has large amounts of intangible assets, the lack of accounting information complicates the task of equity valuation. Empirical research carried out by Porter (Harvard Business Review 1992) and Hall (American Economic Review 1993) suggests that investors have short-term horizons and thus fail to anticipate the rewards from such long-term investments as R&D, causing the high level of return volatility.

The authors point to a return reversal anomaly: Firms that are involved in the transaction of technology rights witness positive price momentum during the announcement period that reverses in the post-announcement period. The authors analyze various possible reasons for this anomaly, but it prevails throughout their period of study, in bull and bear markets and across all industries.

Regression analysis suggests that price momentum prior to the announcement period is a statistically significant determinant of post-announcement returns. Negative price momentum prior to the announcement is momentarily halted by the abnormal positive return resulting from the announcement, but negative momentum resumes afterward. In contrast, although positive price momentum prior to the announcement is followed by no price reversal, the positive momentum is halted. The authors’ findings seem to support the hypothesis that investors do not value R&D investment but instead value short-term gains. In addition, the results of the study suggest that how a stock reacts to corporate events is a function of the stock momentum leading up to the event.

How Did the Authors Conduct This Research?

The authors identify 1,426 announcements of the sale of technology rights between 1977 and 2009. These rights were considered scientifically successful (patented or patent pending) but not yet commercially proven. The authors select a sample of 358 transactions in which both buyer and seller were public-listed firms with data on CRSP.

Using daily data, the authors estimate the stock returns for these companies for three different periods relative to the initial announcement day (t): pre-announcement period (t–30 to t–2), announcement period (t–1 to t+1), and post-announcement period (t+2 to t+20). To carry out the cross-sectional analysis, they divide each sample into two subsamples according to the phase of the stock market (i.e., bear or bull).

Abstractor’s Viewpoint

In the case of the acquisition of technology rights where the risk of successful commercial use of a technology is being transferred from seller to buyer, the authors have not collected enough evidence to shed light on the higher return sensitivity of sellers during the post-announcement period.

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