research@hec - Issue #30 - (Page 2)

corporate finance research hec Financial analysts: Are they useful after all? François Derrien and his co-author study the extent to which financial analysis impacts a firm’s decisions. They provide empirical evidence revealing a direct link between analyst coverage and the cost of capital, amounts invested, and financing capacity. Contrary to popular belief, it seems that financial analysts do indeed serve a real purpose. François Derrien B iography With a PhD from HEC, François Derrien began his career in 2002 at the Rotman School of Management (University of Toronto). In 2007, he returned to HEC, joining the ranks of the Finance Department at HEC, where he is currently coordinator. The main focus of Derrien’s work is on corporate finance, and his particular areas of interest include initial public offerings, the role of financial intermediaries, analyst behaviors, and the impact of institutional investor horizons on corporate policies. Does coverage by financial analysts influence corporate decision-making? “It is an important question,” says François Derrien. “Some researchers think that analysts do not provide much information, that they all say the same thing, that they are subject to conflicts of interest, and that their analyses are biased. There is a general consensus that, essentially, they are not of much use.” To test this idea, Derrien and his co-author, Ambrus Kecskés, identified firms that had reduced analyst coverage (i.e. cut back on the number of analysts covering them) and studied the impact of that loss on financing and investment decisions. “It proved to be more complicated than we initially thought it would be,” explains Derrien. “Simply analyzing the investment decisions of firms that have lost or gained an analyst is likely to result in erroneous conclusions. For example, the fact that a firm has reduced their investments after losing an analyst might seem to indicate that their decision to make fewer investments has resulted from that loss of the analyst, when in fact they lost the analyst because they reduced their investments.” To verify the causal relationship, the researchers tackled the problem of identifying exogenous shocks in analyst coverage – i.e. shocks that cannot be caused by anticipated changes in corporate policy. They focused on decreases in analyst coverage following the closure or merger of brokers. In either of those two events, some or all of a firm’s analysts are dismissed, with the firm losing some of its coverage. RELATIVELY STRONG RESULTS IN TERMS OF ECONOMIC MAGNITUDE The results of the study confirm that analysts generate important information that is used by market players, which impacts the cost of capital for firms and, consequently, the investments they agree to and their financing. In fact, after the loss of an analyst, companies reduce their investments by on average 2.4% of the total value of their assets. The three investment components that the researchers focused on (capital, research and development, and acquisitions) fall significantly in both the year prior to and following the loss of an analyst in comparison to similar firms that do no lose an analyst. Firms also considerably reduce their financing (on average by 2.6 % of their assets) when they lose an analyst. Amongst the three variables that the researchers were interested in (changes in long and short-term debts and equity issuance), only short-term debt does not decrease significantly, because it is less sensitive to uncertainty and, consequently, to analyst coverage. The greater the coverage, the more information there is available for investors, thus the lower the uncertainty regarding 2 • December 2012 - January 2013

Table of Contents for the Digital Edition of research@hec - Issue #30

Cover & Contents
Financial analysts: Are they useful after all?
The luxury market: A development opportunity for the nomads of the Tibetan Plateau?
Entrepreneurship: When overconfidence favors riskier bets

research@hec - Issue #30