Over the medium-term, shares are ‘expected’ to trade around their long-term fundamental value. However, individual share price movements can be related to underlying change in perceptions of the value of the company and often occur in ‘steps’. Section 2.3.2 briefly reviewed event methodology while Section 2.3.3 described post-announcement drift. This section discusses an empirical view of material share price announcements, particularly in relation to junior and mid-tier resources companies.
In a material company announcement to the ASX, the factors affecting the subsequent share price movement include:
1. the materiality of the potential difference in perceived news value versus the current share price,
2. the conviction of market participants in the reliability of the news value, 3. the market awareness of the presence of the announcement,
4. the investability of the stock relative to its liquidity, and 5. the state of the market at that particular time.
In the first instance, the materiality is important in relation to relative upside in the share price and the risk involved with an investment. In this instance, a junior resources company may not attract increased investment unless say, drilling results substantially upgrade a project from its earlier status. Similarly, a small regional exploration success is unlikely to be material to a mid-tier company with operating assets.
In the author’s experience, the conviction of the revaluation basis and overall market
awareness are two key factors influencing potential movements in share prices and
sized companies. A conviction factor often relates to prior market knowledge of the project and ability to recognise the significance of the new data while market awareness is the ability for a significant number of investors to be aware of the announcement. Both directly relate to the publicity conducted by the company and its promotional efforts as well as the profile of management. Frequent market
announcements, presentations to and discussions with the investor/shareholder base as well as the financial community are extremely important as well as potential analyst and investor site visits. Market awareness and conviction also relate to the presence of a supporting broker and the breadth of the broker’s client base.
A key factor affecting a company’s share price performance is the size of the pool of investment funds that can be directed towards investing in a particular company relative to the liquidity of that company. The former reflects its investability and as discussed earlier, often reflects size and operational attributes of the company. The
liquidity can reflect both the size of the free float of a company as well as the degree
of ‘tightness’ of the share holdings. A high proportion of shares owned by directors, management and friends can lead to higher share prices per given announcement due to an inability to execute orders without pushing up the share price although this can ‘backfire’ where share price ‘jumps’ are too great and investors lack a comfortable level of liquidity. Company management setting future value propositions to the market that well exceed the current share price will also decrease liquidity with shareholders keen to ‘hang-on’ for longer term upside.
The final factor is the state of the market at the time of the announcement as a strong bull market will illicit a greater share price appreciation than a falling market for a similar positive announcement.
Hence, an equation to describe the potential share price movement by a company after a material announcement is:
MS L I A C f change Si =Ρ * ( n. n. i. i). Δ Where: =
=
Ρchange Potential share price change reflecting the materiality of the news in an
average market =
n
C A measure of the confidence in the news =
n
A A measure of the market pervasiveness of the news =
i
I The quantity of investment funds capable of being directed to stock i =
i
L A measure of the free float and shareholder ‘tightness’ or liquidity of stock i =
MS A broad market factor depicting recent market sentiment, e.g. is the announcement in a rising or falling resource market?
While the parameters are difficult and subjective to estimate, it nevertheless highlights that there are potentially five factors (or more) that influence how a company announcement is received by the market and the influence it may have on the company’s share price. Two of these factors relate to the company’s marketing campaigns and ability to disseminate information, two relate to stock specific attributes and the final reflects how the market is performing at the time of the announcement.
Hence, the analysis of the share price reaction to news announcements, particularly in the mid tier and junior sector, is not solely dependent on the materiality of the news. This is an issue confronting the overall share price performance of some resource companies and research such as event analyses.
2.5 Discussion of Financial Valuation Methods
The influence of market participants in the setting of resource company share prices depends on a combination of the investment capability of ‘buy-side’ investors, the breadth of the ‘sell-side’ influence of the promoters and key brokers, and stock specific issues including the degree of ‘compellingness’ of the investment proposal and well as other issues alluded to in the previous section. However the attraction of the resource sector has varied over time and when the resource sector has moved out of favour, different valuation techniques generally emerge which present the sector in a poor light.
This section briefly discusses variations of returns analysis which underpins a significant proportion of the M&A activity following the Tech Boom (2000-2002) and which was designed to consolidate the industry to increase returns (through greater control of commodity supply) and to provide fewer but more attractive investments for global funds. The first part discusses the recent introduction of the International Financial Reporting Standards (IRFS) in Australia which change the accounting for goodwill in M&A activity.