Does It Help to Secretly Buy Stock Recommendations? Does It Help to Secretly Buy Stock Recommendations?

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1 Does It Help to Secretly Buy Stock Recommendations? Does It Help to Secretly Buy Stock Recommendations? Abstract Recently, media attention has noted surreptitious deals between listed firms and promoters hired secretly by the firm. The promoter offers his/her expertise to raise the firm s share price in exchange for either a fee or a percentage of the increase in trading volume or share price. In this paper, we find that promotion by investor relations specialists who illegally fail to disclose their relationship with listed firms leads to an initial increase in price and trading volume of the stocks of these firms. Subsequently, however, we find that the increase in price is reversed when regulators (e.g. SEC or NASD) take action against these promoters, for not disclosing their relationship with the hiring firms. Smaller firms, firms that have higher capital expenditure and firms with lower leverage are more likely to surreptitiously hire such promoters in order to improve the market s view about their firm s prospects. Furthermore, a significant decline in the insider ownership of hiring firms subsequent to the promotion of the stock is also observed, which implies that managers are using hired promoters for their own private benefit. 1

2 1. Introduction Recently, media attention has noted secret deals between listed firms, and promoters hired surreptitiously by the firms. The promoter offers his/her expertise to raise the firm s share price in exchange for some form of payment (e.g. a fee or a percentage of an increase in either trading volume or share price). For example, on August 12, 2002, the Securities and Exchange Commission (SEC) filed a complaint against Mark Schultz of for promoting at least twelve share issues between (For example, these included Acacia Research Corp., American Entertainment Group, American Nortel Communications and others 1 ). The SEC alleged that Mr. Schultz had made inflated financial projections and predicted price increases of 100 percent or more. According to the complaint, he portrayed his analysis as independent whereas in reality he was paid by the firm for his projection. In another litigation case (August 12, 2002) the SEC charged the publishers of an Internet newsletter called the Future SuperStock (FSS) for promoting stocks without disclosing financial compensation they received from firms. FSS had more than 100, 000 subscribers. The complaint alleged that FSS projected that their recommended stocks will double or triple in price during next three to twelve months. During the period of 1995 to 2006, 40 such complaints were lodged against these promoters by the SEC and National Association of Securities Dealers (NASD) for failure to disclose these relationships and the compensation they received from the firms they were promoting. This involved 273 different listed firms. The promoters were charged under Section 17(B) of the Securities Act 1934 which states that it is unlawful for any person: to publish... 1 These included Acacia Research Corp., American Entertainment Group, American Nortel Communications, AWG, Ltd., Eutro Group Holdings, Inc., EVRO Corp., Imagica Entertainment, Inc., Imaging Diagnostic Systems, Inc., N.U. Pizza Holding Corp., Tessa Complete Health Care, Inc., Wasatch International Corp., and WestAmerica Corp). 2

3 or circulate any notice, circular, advertisement... or communication which, though not purporting to offer a security for sale, describes such security for a consideration received or to be received, directly or indirectly, from an issuer... without fully disclosing the receipt, whether past or prospective, of such consideration and the amount thereof. Interestingly, the hiring firm is not legally liable. Basically, a firm could legally hire a promoter to paint a rosy picture of the firm s prospects to investors and the only penalty the firm might face is from the market rather than regulatory discipline. The aim of this paper is to examine a number of important questions that arise are from these types of events. These are: (i) how does the market initially react to the recommendations by promoters? (ii) how does the market subsequently react to SEC charges with respect to these promoters? (iii) how could (and if so, which) managers of the firm benefit from such deals? (iv) how could the promoter company benefit from the deal? and (v) what type of firm is more likely to consider such deals with a firm promoter? This is the first paper in the literature to examine these issues. In the paper we first examine events in which firms hire investor relations firms (promoters) to increase investor interest in their securities without disclosing their association with these promoters to the market. In all the cases in our study, however, the SEC and NASD subsequently took legal action against the promoters for their failure to disclose these relationships. These events provide us with a very useful mechanism to examine the impact of situations where the market is (1) initially unaware and then (2) subsequently becomes aware of a relationship between a firm and a paid promoter. 3

4 We find that when a promoter does not disclose its relationship with a firm, the price of the firm s stock increases for a short period of time. In other words secretly hiring a promoter can have some positive impact on a firm s share price. The mean Cumulative Average Abnormal Returns (CAAR) for the (0, +4) window is %. However, we also find that when a regulator subsequently announces that a financial relationship does (or did) exist between the firm and the promoter, the returns for the firm become significantly negative the mean CAAR for the (0, +4) window is %. Put simply, our findings suggest that there does appear to be an incentive for firms to surreptitiously hire promoters, and hope they are not detected by regulators. However, if the authorities do indeed detect a financial relationship between a firm and a promoter, and take appropriate public action, the share price of the firm declines significantly. This suggests that when a firm secretly hires a promoter it is a high-risk roll of the dice strategy. To investigate the possible private benefits to managers of a firm hiring a promoter, we follow Hong and Huang s (2005) analysis of why managers hire investor relations specialists. Their argument is based on the private motivations of managers to increase the stock price of their companies. They argue that managers of small and new firms commonly hold large blocks of shares in their own firm. Thus they might wish to diversify their own investments and use investor relations to increase the liquidity (i.e. increase price and trading volume) of their shares. Interestingly, we find that insider ownership decreases significantly and the trading volume increases significantly after the firm hires a promoter and before a promoter is charged by regulators. This finding is consistent with the proposition that an important motivation for insider owners to secretly hire a promoter is to subsequently liquidate their shares at a higher price. 4

5 We also look at firm characteristics to identify the kind of firms that might surreptitiously hire these promoters. Using a logistic regression analysis, we use two matching approaches. Firstly, we match our promoted firms with other firms in the same industry, trading market (NYSE, NADAQ, etc..) and same year. Secondly, we match firms on a multi-dimensional basis with respect to observable financial variables, industry, market and year, using propensity score matching following Leuven and Sianesi s (2003) propensity score matching procedure. Our main results for the logistic regression show that smaller firms, firms that have higher capital expenditure and firms with lower leverage are more likely to surreptitiously hire such promoters in order to improve the market s view about their firm s prospects. The paper is organized as follows: section 2 provides an overview of the existing literature; section 3 provides a description of our sample and the different sources of our data; section 4 analyzes the market reaction to a firm hiring a promoter and the subsequent charge by regulators; section 5 analyzes the potential private benefits to both the firms mangers and the promoters; section 6 presents our logistic regression analysis and section 7 presents our conclusion 2. Literature Survey This paper falls within the larger literature on the impact of information on share prices. More specifically the paper follows on from the recent literature on why firms use investor relations specialists. As described above, the key innovation of this paper is to examine events where the relationship between a firm and a promoter is initially kept secret from the market. The main hypotheses we test in this paper are related to those developed in the literature when the market is aware of the relationship between the firm and the investor relationship specialist 5

6 (or promoter). Our paper extends these hypotheses by examining the case when the market is initially unaware of the relationship, but subsequently becomes aware. Hong and Huang (2005) define investor relations as, a set of activities that firms engage in with investors and analysts. The main benefit of these activities is the reduction of information asymmetry between investors and the firm. Hong and Huang, (2005) conjecture that CEOs of new and small firms might spend as much as 25% of their time on investor relations. Using agencies that specialize in investor relations might reduce the cost of these activities and might enhance their effectiveness. Although the motives behind hiring investor relations specialists might vary from firm to firm, there seems to be a general consensus that the effects will be an increase in price and liquidity. The existing studies do not look at the effect of information emanating from a third party employed by the firm on stock price and liquidity. This third party is required to disclose its affiliation with the hiring firm. However, in our sample, it fails to do so and it is charged by Securities and Exchange Commission. In our unique sample, the quality of information seems credible and trustworthy at first. However, the non-disclosure of a relationship between investor relations firms and hiring firms might lead to more severe information asymmetry and less credibility of firm s information in the long run. We try to determine if these third parties are able to produce the same results that conventional investor relations firms produce. This has important implications for credibility of source literature. Another strand in the literature has examined the impact of the internet on information flows and the impact of investor relationships and promoters. According to Deller et al (1999), the use of the internet as a medium to conduct investor relations is more widespread in the United States as compared to the United Kingdom or Germany. Barber and Odean (2001) look at 6

7 the impact of the internet on investors trading behavior specifically online trading. They argue that although disintermediation of brokerage houses is a boon for investors, the downside is the loss of advice that the investors were getting from them. Wysocki (1998) looks at the impact of message board volume on Yahoo Message Board on the price and trading volume of the underlying stocks. He finds that overnight trading volume is able to predict the trading volume and returns on stocks on the next day. Antweiler and Frank (2004) look at the posting volume on Yahoo and Raging Bull message boards for about 45 Dow Jones Industrial Average companies. They find that these messages are good predictors of volatility and have a statistically significant impact on returns. Thus we can conclude from the recent studies that the spread of information through the internet seems to affect the trading volume and price of the stocks. 3 Data: We collected information about Investor Relations Specialists (Promoters) charged by the Securities and Exchange Commission (SEC) from the Website of the SEC ( We included Litigation Releases from We also used the NASD website to find identical cases. Besides these resources, we used FACTIVA to collect detailed information about these events. In all the cases, we collected the date on which promoters started promoting these stocks as well as the date on which SEC or NASD filed their complaint against the promoters. In total we are able to find data for 169 firms. We used DataStream to collect market price and trading volume information about our sample. We define promotion (or the event date) as the date on which Securities and Exchange Commission said that these promoters started promoting the stocks. In those cases, where Securities and Exchange Commission did not specify an exact date, we collected that 7

8 information from Factiva or searched it on the World Wide Web. In these cases, we take the date on which contract between promoter and the firm becomes effective as the event date. We took the oldest date as the event date in all the cases. We avoid using the same firm again if the promoter kept on promoting the stock over a number of weeks. For the 169 firms 2 in our sample (i.e. those firms who secretly hired a promoter who was subsequently charged by the SEC or NASD) the mean market value was $70 Million. The largest firm had a market value of $2.6 billion. In terms of the exchanges on which the firms were listed, 4 firms on were listed on the New York Exchange, 4 on Nasdaq, 7 on Amex, 25 on OTCBB and the rest (129 firms) were listed on Non NASDAQ OTC. In May 2007, of the 169 firms in our sample, 125 firms are still active in the securities market, 2 were suspended and 31 are inactive. Some of these promoters had their own websites and charged subscribers for their independent services. Some had their own TV programs on which they promoted these companies without disclosing their relationship with the firm. In other cases, spam or discussion forums were used to promote the companies. We also used Compustat to collect accounting data about these firms. We collected ownership data from firm online filing with the Securities and Exchange Commission files. 4. Market Reaction In this section we investigate the market reaction to both the event of hiring a surreptitious promoter and the subsequent charges to the promoters by the SEC. We develop the following testable hypothesis to answer the questions posed in the introduction: (i) how does the market 2 Of these firms, some firms had hired these promoters before their IPOs which means we do not have observations for event study for these firms, in other cases, we did not know the exact date of event so we excluded those firms. 8

9 react to the recommendations by promoters? (ii) how does the market react to SEC charges with respect to these promoters? 4.1. Hypotheses A large literature in Finance has shown that positive commentary about a firm by a reputable independent analyst could have a positive impact on the firms share price. Womack (1996) reports significant (2.4%) returns around buy recommendations by security analysts. Barber et al (2001) find that stocks with most favorable consensus recommendation, on average, earn annualized geometric mean return equivalent to 18.6%. A key issue in such commentary being credible, however, is that the market should believe that there is an arms length relationship between the provider of information and the firm, i.e. an independent neutral view. This paper examines whether the kind of relationship between the analyst and the firm (i.e. secret or public; independent or paid) impacts the extent to which the market responds to information released by the analyst. Accordingly, our central hypothesis is that a firm s share price is increased significantly by the use of paid promoters as long as the market is unaware of the relationship between the firm and the promoter. Thus our first hypothesis can be formulated as: HYPOTHESIS 1: A surreptitious paid promoter has a positive impact on the share price of a firm, as long as the relationship between the promoter and the firm is unknown to the market. Our second hypothesis is that subsequent news that there is indeed a relationship between the surreptitiously paid promoter and the firm, should result in a negative impact on the firms 9

10 share price, because the market realizes that what it believed to be an arms length independent recommendation about the firm is in fact a paid promotion by the firm. HYPOTHESIS 2: Once the market learns that there is indeed a surreptitious relationship between a firm and a paid promoter, then there will be a negative impact on the firm s share price. 4.2 Methodology Our main results for this section are based on the event study methodology. Specifically we look at the impact of promotion on stock price. We employed the standard event study with value and equally weighted index 3. The abnormal returns are calculated as: AR it ( R X ) = Rit E it it, where it AR denotes Abnormal Return for security i at time t, E ( R it X it ) denotes the expected return given market return or mean return for security i at time t and R it denotes actual return for security i at time t.. We use the following market model to calculate the parameters for each security in our sample; R = α + β R. We it it it mt estimate the parameters for our model before the event date. We use market and individual security returns for 245 trading days ending on day -45 before the event for the estimation of parameters of different models. This ensures that these parameters are not contaminated by the actual event. For longer window, we first calculate average abnormal returns for all securities using the following formula: AAR = 1 N t AR it N i= 1 where AAR is the average abnormal return. Cumulative average abnormal returns are calculated by using the following formula: 3 Our discussion and notation here generally follow Mackinlay s (1997). 10

11 1 2 t 2 CAAR( t, t ) = AAR. To allow for the diffusion of information by promoters into stock prices t= t1 t we report our results for longer windows. We report results for windows from (0, 0) to (0, 12). 4.3 Results Our results for the event studies are presented in Tables 1 and 2. HYPOTHESIS 1: In Table1, we find that there is an increase in stock price on the event of hiring a promoter by a firm. For window (0, +4) the average cumulative abnormal returns (CAAR) is 11.94%. It is economically and statistically significant at the 1% level. CAAR remain positive and significant for all windows 4. These results provide strong support for our hypothesis that, A surreptitious paid promoter has a positive impact on the share price of a firm, as long as the relationship between the promoter and the firm is unknown to the market. HYPOTHESIS 2 Next we look at the impact of legal action by regulators on stock prices of hiring firms. In Table 2, we find that market reacts negatively to the announcement that the regulators legal action against the promoters but the reaction comes with lag where it has a significant negative effect on the windows from (0, +4) to (0, +12). The mean CAAR is 32.94% on the (0, +4) window and it is significant at 5% level. This suggests that although legal authorities take action against the promoter and do not take action against the hiring listed firms, the market takes a dim 4 We exclude firms with returns considered outliers. We consider returns in excess of absolute value of 999% over two-week period unusual and outliers. Only three firms were excluded. 11

12 view of these dealings and punishes the listed firm. These results support our hypothesis, Once the market learns that there is indeed a surreptitious relationship between a firm and a paid promoter, then there will be a negative impact on the firm s share price. 5. Who Benefits from the Secret Deals? In this section we answer some of the questions posed in the introduction, namely (iii) how could managers of the firm benefit from such deals? (iv) how could the promoter company benefit from the deal? To investigate these questions, we follow the Hong and Huang (2005) argument that is based on the motivations of managers for using paid investor relationship specialists to increase the stock price of their companies. They argue that managers of small and new firms commonly hold large blocks of shares in their companies, thus they might want to diversify their own investments and use investor relation firm to increase the liquidity of their block of shares measured by daily trading volume. Accordingly, we investigate first if the market liquidity of firm s shares increased after the event of hiring the surreptitious promoter. Then we investigate if the insider ownership changed after the event. Our measures of liquidity are: (i) the daily average trading volume (measured in number of shares traded) in the period from one year before to one year after the event, and (ii) the average number of trading days in the period from one year before to one year after the event of hiring a promoter by a firm. We use paired sample comparison. Our results are presented in Table 3. 12

13 In Table 3, we find that there is a significant increase in both the trading volume and the average number of trading days one year after the event. This suggests that there is an increase in the liquidity of the stocks after the event as suggested by the existing literature. This significant increase in liquidity combined with the significant increase in the stock price (see section 4) could possibly benefit the promoter and manager. They could redeem their holding of the firm s shares at a favorable price, relative to the price if no promotion had occurred. Next we investigate the change in ownership of insiders before and after the secret hiring of a promoter by a firm. We find that the average insider ownership decreases from 25.93% to 22.30% after the event. The change is statistically significant in paired sample mean comparison at a 5% level of significance 5. This indicates that private benefits might have been the motive behind hiring these promoters. The managers of the firms then might have been able to decrease their stakes in the firm. This might be an important consideration for the managers of small and young firms. Diversification might have been an important consideration for these managers. These results are consistent with Hong and Huang (2005) argument regarding the manger s incentives to hire investor relationship firms. We report our results in Table What kinds of firms secretly hire promoters? This section examines the question of which kinds of firms choose to surreptitiously pay promoters to boost their share prices. 5 The sample size for insider ownership is limited to 33 firms. This is due to the unavailability of insider ownership data in year before as well as after the event. 13

14 6.1 Methodology We use logistic regression to predict what characteristics distinguish the firms in our sample that secretly hired promoters, compared to matched firms. We match firms in our sample with firms from Compustat database on the basis of fiscal year, industry (4 digits SIC code) and market for the trading of the shares (exchange listed). From the 110 firms from first event study sample 68 sample firms over the period had accounting data available in Compustat, with the holdout sample comprising all firms who chose not to hire a promoter and who meet the three criteria above. In total we have 13,066 firm-year observations for the control group. Based on the existing literature we investigate the following important factors: 1. Firm size We predict smaller firms are more likely to surreptitiously use paid promoters than larger firms. This follows from the Leuz and Verrecchia s (2005) argument that smaller firms are more subject to asymmetric information problems between the firm and the market and are thus more likely to use investor relations specialists. The key difference between the Investor Relations argument of Leuz and Verrecchia (2005) and our Surreptitiously Paid Promoters argument is that the former relationship between firm and promoter is known to the market and the latter is unknown. We argue that if the asymmetric information problems between firm and the market is more likely to affect smaller firms, then it is those smaller firms (rather than larger firms) who are more likely to decide to use surreptitiously paid promoters. We measure the firm size by the natural logarithm of book value of the assets. 2. Firm's potential growth options Our second factor concerns the impact of firm's potential growth options on a firm s decision to surreptitiously use paid promoters. We propose an argument here that firms that have 14

15 made significant investments in positive NPV projects may be subject to the asymmetric information problem between the firm and the market, if the market appears to be unaware of these investment projects. Under such circumstances, the firm faces a strong incentive to solve the asymmetric information problem. One way of doing so is by using surreptitiously paid promoters. Accordingly we predict Firms that have a higher potential of growth are more likely to use surreptitious paid investors than firms with less capital investment. We measure the potential growth of the firms with two alternative measures: (i) capital expenditure and (ii) Tobin s Q, as measured by the Market Value of Assets divided by the book value of the assets. The market value of assets is equal to the book value of the assets plus the market value of the common equity (measured at year end) less the sum of the book value of the common equity and balance sheet deferred taxes. 3. Information asymmetry Following the argument proposed Leuz and Verrecchia (2005) firms that are more subject to asymmetric information problems between the firm and the market are more likely to use investor relations specialists. We predict firms that are more expected to have an asymmetric information problem are more likely to hire a promoter. We use the Research and Development ratio (RD_Sales: is Research and Development divided by Sales) as a proxy measure of the degree of asymmetric information between firm insiders and outsiders regarding the value of that firm's assets, see Marosi and Massoud (2005). 4. Raising funds Since most of these firms hire a promoter to increase their share price, one could argue that the main objective of the firms is to either raise equity or debt. Accordingly, we predict 15

16 those firms who secretly hire promoters have less access to debt. We also predict that those firms who hire a promoter increase their capital issuance in the period after they hire the promoter. 5. Free cash flow We follow Jensen s (1986) definition of cash flow. 6 In the literature ((Jensen (1986) and Lehn and Poulsen (1989)) firms with larger cash flow are perceived to have less need for external financing. However firms in our sample are younger firms that need this cash to invest in new projects. Hiring investor relations specialists might be an attempt by the managers to reduce the information asymmetry problem without paying free cash as dividend. 6.2 Results Table 4 presents the coefficient score results of the logit analysis for each of the explanatory variables described above. We dropped and introduced variables to avoid including variables with high correlation. Accordingly, we present our results in 3 different models. 1. Firm size As can be seen from Table 4, the firm size variable as measure by the book value of assets is significant and negative implying smaller firms are more likely to hire a surreptitious promoter. 2. Firm potential growth We find the higher capital expenditure (see model 2 in Table 4) the more likely for the firm to secretly hire a promoter. The results are significant at 1% level. The other alternative growth measure, the Tobin q ratio, is insignificant. 4. Raising funds 6 Where Free Cash flow is measured by Subtracting total income taxes (Compustat #16 minus change in deferred taxes Compustat#35), interest expenses (Compustat#15), Preferred and Common Dividends (Compustat#19 &21) from Operating income before depreciation (Compustat#13). 16

17 We find that lower leveraged firms (see model 3 in Table 4) are more likely to hire a surreptitious promoter. The results are significant at 10% level. This confirms our earlier prediction 7. In summary, we find that smaller firms, firms with more growth potential and firms with restricted access to the debt market are more likely to higher surreptitious promoters as predicted by our hypotheses. 7. Conclusion: We look at events in which firms surreptitiously hired investor relations firms to promote their stocks. We develop and test different hypotheses about the effects of these activities on the prices of the stocks, motives of the likely benefactors of these activities and the type of firms that might hire these promoters. Our event study results suggest that promotion by these investor relations firms does indeed initially lead to increase in the price and liquidity of the stocks of the hiring firms. However, this is a high stakes roll of dice strategy. When regulators disclose the relationship between the promoters and the hiring firm, the price of the stock drops and these firms experience economically and statistically significant negative abnormal returns. These results are consistent with our hypotheses about market reaction which suggest that market will react positively to the promotion by purportedly independent analysts. However when these analysts are subsequently shown to be paid, the market reacts negatively. 7 We are examining if these firms raised even more equity (or debt) after hiring promoters. 17

18 Our hypothesis about the possible motivations of the managers of these listed firms suggests that they hire investor relations firms at least partly to increase the liquidity of the stocks. These managers have substantial investment in the firm and would like to see a more liquid market for their holdings. We find evidence for an increase in liquidity as well as decrease in the insider holdings after the promotion. Our empirical findings about the characteristics of the firms that are likely to hire investor relations firms support our hypotheses that smaller firms are more likely to hire these promoters. We also find support for our other hypothesis that these firms have invested in new projects and have more cash with them as compared to other firms in the same industry. Both of these findings suggest that these firms are interested in reducing information asymmetry between themselves and the investors and want to signal that they have good investment opportunities. Hiring these investor relations specialists is means to that end. In sum, this paper is the first in the literature to document the causes and consequences of the surreptitious use of paid promoters. Many firms will clearly face strong incentives to undertake such illegal activities. This is a very high risk strategy though, because if such activities are detected by the authorities, the listed firm will face significantly negative consequences. 18

19 References: Antweiler, Werner, & Frank, Murray Z Is all that talk just noise? The information content of Internet stock message boards. The Journal of Finance, 59(3): Barber, Brad M., & Odean, Terrance The Internet and the investor. Journal of Economic Perspectives, 15(1): Barber, B., Lehavy, R., McNichols, M., & Trueman, B Can investors profit from the prophets? Security analyst recommendations and stock returns. The Journal of Finance, 56(2): Brennan, Michael J., & Tamarowski, Claudia INVESTOR RELATIONS, LIQUIDITY, AND STOCK PRICES. Journal of Applied Corporate Finance, 12(4): Bushee, Brian, J. Miller, Gregory, S Investor Relations, Firm Visibility and Investor Following. Deller, Dominic, Stubenarth, Michael, & Weber, Christoph A survey on the use of the Internet for investor relations in the USA, the UK and Germany. The European Accounting Review, 8(2): Hong, Harrison, & Huang, Ming. 2005/1. Talking up liquidity: Insider trading and investor relations. Journal of Financial Intermediation, 14(1): Kothari, S.P.; Short, J.E.; Working Paper. The Effect of Disclosure by Management, Analysts and Financial Press on the Equity Cost of Capital. Leuz, Christian and Verrecchia, Robert E., "Firms' Capital Allocation Choices, Information Quality, and the Cost of Capital" (January 2005) MacKinlay, A. C Event studies in economics and finance., Journal of Economic Literature 35(1):

20 Massoud, N.; Marosi, A. Why do Firms Go Dark? The Journal of Financial and Quantitative Analysis (Forthcoming, 2005) Womack, K. L Do brokerage analysts' recommendations have investment value? The Journal of Finance, 51(1): Wysocki, Peter Cheap Talk on the Web: Determinants of Postings on Stocks Message Boards. 20

21 TABLE 1: Event Study Results For Promotion Date The table below presents the results of an event study testing the impact of promotion on the share price. The model is: R i,t = α i + β i R M,t + ε i,t, where R i,t is the return on the common stock of the i th company in our sample at time t; R M,t is the return on the value-weighted Market Index (DATASTREAM) at time t, and ε i,t is the error term. Return data for each sample firm was obtained from DATASTREAM. The market model was estimated using OLS model over a 255-day period, ending 46 days before the event day. Cumulative Average Abnormal Returns (CAAR) for event day are economically and statistically significant. Precision weighted CAAR remain significant for two weeks. Days N Mean CAAR Precision Weighted CAAR Positive: Negative Patell Z Generalized Sign Z (0,0) % 3.05% 63: *** 3.275*** (0,+1) % 5.34% 68: *** 4.238*** (0,+2) % 5.80% 63: *** 3.275*** (0,+4) % 8.29% 64: *** 3.467*** (0,+7) % 7.15% 60: *** 2.697*** (0,+10) % 8.26% 60: *** 2.697*** (0,+12) % 6.43% 53: ** 1.348* *** Indicates p value of 1% ** Indicates p value of 5% * Indicates p value of 10% 21

22 TABLE 2: Event Study Results For Legal Action Date The table below presents the results of an event study testing the impact of promotion on the share price. The model is: R i,t = α i + β i R M,t + ε i,t, where R i,t is the return on the common stock of the i th company in our sample at time t; R M,t is the return on the value-weighted Market Index (DATASTREAM) at time t, and ε i,t is the error term. Return data for each sample firm was obtained from DATASTREAM. The market model was estimated using OLS model over a 255-day period, ending 46 days before the event day. Cumulative Average Abnormal Returns (CAAR) for event day are economically and statistically significant. Precision weighted CAAR remain significant for two weeks. Days N Mean CAAR Precision Weighted CAAR Positive: Negative Patell Z Generalized Sign Z (0,0) % -0.09% 44: * (0,+1) % -0.84% 45: (0,+2) % -1.20% 38: *** (0,+4) % -2.54% 37: ** *** (0,+7) % -4.04% 31: *** *** (0,+10) % -5.96% 31: *** *** (0,+12) % -6.00% 34: *** *** *** Indicates p value of 1% ** Indicates p value of 5% * Indicates p value of 10% 22

23 Table 3: Liquidity before and after the event This table looks at the liquidity before and after the promotion event. We look at average daily volume one year before the event and compare it with average daily volume one year after the event. We find that the average daily volume increases sharply during one year after the event. We also look at the average number of trading days one year before the event compare it with average number of trading days one year after the event. We find that average number of trading days increases after the event. We use t-test for paired sample mean comparison and report t-stat and p-values in this table. We find that liquidity improves significantly after the promotion. Daily Volume (Averaged over One Year) Number of Trading Days (Averaged Over One Year) Before the Event After the Event Before the Event After the Event Mean 53, , T-Stat (one-sided) P-value Number of Observations *** Indicates p value of 1% ** Indicates p value of 5% * Indicates p value of 10% 23

24 Table 4: Logistic Regression of the Probability of Hiring an IR specialist(who hides relationship with hiring firm) with Matched Sample This table reports the co-efficient score results for the firms hiring IR specialists who hide their relationship with the hiring firm) in the same industry, same fiscal year and same exchange on which the stocks traded. We find that smaller firms are more likely to be part of our sample. These firms are more likely to have free cashflow. The values in Parenthesis are Standard Errors. Sales is Compustat item data12. Leverage is Liabilities divided by total Firm Assets. RD_Sales is Research and Development (Compustat item Data46) divided by Sales. Tobin s Q was measured as the Market Value of Assets divided by the book value of the assets. The market value of assets is equal to the book value of the assets plus the market value of the common equity (measured at year end) less the sum of the book value of the common equity and balance sheet deferred taxes. Cash is Free Cashflow divided by book value of Common Equity. Where Free Cashflow is measured by Subtracting total income taxes (Compustat #16 minus change in deferred taxes Compustat#35), interest expenses (Compustat#15), Preferred and Common Dividends( Compustat#19 &21) from Operating income before depreciation (Compustat#13). Model 1 Model 2 Model 3 Intercept (0.1750)*** (0.1332)*** (0.2027)*** Leverage (0.0517)* Log(Asset) (0.0439)*** (0.0509)*** RD_Sales ( ) ( ) Tobin s Q ( ) ( ) Cash ( )*** ( )*** Cap (0.1584)*** Number of Sample Firms Number of Matched Firms *** Indicates p value of 1% ** Indicates p value of 5% * Indicates p value of 10% 24

25 Table No.5 Insider Ownership Before and After the Event This table looks at the insider ownership before and after the promotion event. We look at insider ownership as reported in proxy statements during one year before the event and compare it with insider ownership during year after the event. We find that the average insider ownership decreases during one year after the event. Insider Ownership Year Before the Event Year After the Event Mean 25.92% 22.29% T-Stat (one-sided) P-value Number of Observations 33 *** Indicates p value of 1% ** Indicates p value of 5% * Indicates p value of 10% 25