Information, Announcement, and Listing Effects of ADR Programs and German-U.S. Stock Market Integration Michael Hertzel*, Paul Lowengrub**, and Michael Melvin*** ABSTRACT We analyze the impact on stock prices in the home market of important events associated with a U.S. listing. Events include the “filing effect” of financial statements made public by the SEC in preparation for an ADR program; the “announcement effect” of the forthcoming ADR program; and the “listing effect” of the first day of U.S. trading. The sample includes German firms that listed in the U.S. between 1991 and 1997. While German accounting standards allow firms to show profits when U.S. GAAP would show losses, we find that the reconciliation to U.S. GAAP reported in the “filing effect” is associated with positive abnormal returns. Perhaps this reflects self-selection where firms with nothing to hide list in the U.S. The announcement effects are mixed across firms. The listing effect is associated with positive abnormal returns. We also find some evidence of volume migrating from the home market to the U.S. after U.S. trading begins. Keywords: ADRs, international cross-listing, international equity markets, German stocks JEL code: F3 *Department of Finance, Arizona State University **Nathan Associates, Washington, D.C. **Contact author: Department of Economics, Arizona State University, Tempe, AZ 85287-3806; [email protected] Useful comments on an earlier draft were received from an anonymous referee, the editor, and participants at the Kiel Workshop on The Integration of Financial Markets in Europe and seminars at the University of Frankfurt, University of Karlsruhe, and the Center for European Integration Studies in Bonn.I. INTRODUCTION This study provides an analysis of some important home-market implications of foreign firms that list their shares in the United States capital market. In particular, the impact on stock prices in the home market of important "events" associated with listing in the United States is analyzed. The focus will be on German firms due to the availability of transactions data from the German home market that allows a long enough time series to conduct a pre- and post-listing analysis and the differences in accounting standards existing between the two countries. While the sample of firms is small, the results justify the analysis at the level of the individual firm rather than at an aggregate level across firms, which is the standard approach in the literature. We demonstrate that results may differ across firms in important ways that are obscured by an aggregate analysis so that researchers may find a detailed analysis at the firm level more fruitful than studying aggregates across firms. German firms are traded in the United States as American Depositary Receipts (ADRs).1 The process of creating an ADR and listing in the United States proceeds in distinct steps. We will examine the effect of the three major public events on returns in the home market. First, we examine the “information effect” of financial statement filings with the SEC in preparation for the ADR program. Second, the “public announcement effect” of the forthcoming ADR program is estimated. Third, the “listing effect” of the start of trading in the United States is estimated. German ADRs were selected for the analysis performed in this paper since under German accounting standards it is possible for firms to present financial statements displaying profits when U.S. standards would result in displaying losses. The “information effect” analysis asks whether there is any information revealed when German firms submit form 20-F to the SEC. By analyzing the domestic price impact of the SEC filing, we can determine if negative information is revealed when the German firms reconcile their financial statements with US GAAP. Beyondthis SEC filing effect, the paper also examines the impact of the first announcement of the ADR program (announcement effect) and the start of trading for the ADR (listing date). In terms of the microstructure of the international equity market, the filing and announcement effects may be thought of as pure public information events while the listing effect captures the initial impact of a change in market design. With regard to the impact of new information revealed by a firm’s SEC filing, there is no expected sign for the price effect. Positive signs would indicate that the U.S. financial statements reveal better news than expected. For instance, even if the news indicates that the firm is in worse financial condition than conveyed by German financial statements, it is possible that the market expected even worse news so that a positive price impact is observed. A negative SEC filing effect would occur if the news was, indeed, worse than anticipated. Similarly, the announcement effect on price could be positive or negative. If investors believe that negative information will be revealed, then price may fall when the intent to list in the United States is made public. However, since international listing is a voluntary act, we might expect that only firms with nothing to hide would participate. In this case, the announcement of plans for a U.S. listing may be interpreted as a signal of firm quality that results in a positive price impact. The public news events associated with a German firm cross-listing in the United States may also yield evidence of whether the asymmetric information existing between firm insiders and the rest of the market has an impact on market dynamics. If one can observe price moving prior to the public news event, then this may be evidence of informed trading. Certainly there are individuals who have participated in the preparation of financial statements or who are aware of the firm’s intent to list prior to the news becoming public. It is even possible that such informed trading has already provided a signal to the public prior to the information event so that no price impact is observed. The listing effect on price in the home country when U.S. trading begins provides an indication of how a change in the market design affects market dynamics. The opportunity to 2trade past European business hours in a highly liquid market could have positive or negative effects on the German price. If the cost of capital to German firms falls with the U.S. listing, we might expect this to reduce the