Interpreting Equivocal Signals: Market Reaction to Specific-Purpose Poison Pill Adoption

Abstract

Signaling theory suggests that firms send signals to stakeholders to reduce information asymmetry. Research, however, has rarely examined how investors interpret signals that are equivocal. We suggest that sensemaking serves as an important process by which investors interpret firm signals, and salient contextual cues influence the sensemaking process. We examine an equivocal signal, the adoption of a poison pill, as a means of examining investor interpretation of the signal and the role of contextual cues in influencing interpretation. Using a sample of 578 poison pill adoptions and controlling for self-selection, we find that investors react negatively to poison pills adopted to protect net operating losses (NOL poison pills) but positively to poison pills adopted when the firm is in receipt of a takeover offer (in-play poison pills). Assessing the role of contextual cues, our results suggest that CEO duality, the proportion of inside directors on the firm's board, the firm's R&D investments, and industry concentration also condition investor response to specific-purpose poison pill adoption. Our study contributes to research on signaling theory, sensemaking, and corporate governance by examining how investors interpret a firm's equivocal governance decisions.

Information Asymmetry in Management Research: Past Accomplishments and Future Opportunities

“…For example, a firm's board of directors is often cast as having an incentive to reduce information asymmetries, while the firm's management may have an interest in increasing the condition (W. G. Sanders & Carpenter, 1998;Sundaramurthy & Lewis, 2003). Similar instances were observed with respect to firm management and large owners (Bednar, Boivie, & Prince, 2013;Dharwadkar, George, & Brandes, 2000), shareholders (Martin et al, in press;Schepker et al, 2018), institutional investors (J. Shin & Seo, 2011), and stakeholders (Crilly et al, 2016), including the media (Bednar, 2012) and regulators (Ramamurti, 2000).…”

“…Zhang & Qu, 2016). Structural barriers also complicate the deployment of employees with specialized knowledge (Postrel, 2002), and increase friction in the relationships between firms and investors (Schepker, Oh, & Patel, 2018), new entrants and incumbents (Pontikes & Barnett, 2015), buyers and sellers (Afuah, 2003), firms and regulators (Ramamurti, 2000), and academics and practitioners (Banks et al, 2016).…”

The role of the board chair—A literature review and suggestions for future research

“…Studies in this category mostly explored the direct or moderating effects of board configurations, that is, duality or role separation on firms' financial outcomes using four key sets of measurements, such as return on assets and return on equity (Duru, Iyengar, & Zampelli, 2016; Gaur, Bathula, & Singh, 2015; Hadani, Dahan, & Doh, 2015; Krause et al, 2019; Naseem, Lin, Rehman, Ahmad, & Ali, 2019; Peng, Zhang, & Li, 2007; Pi & Timme, 1993; Ramdani & Witteloostuijn, 2010; Rechner & Dalton, 1991; Syriopoulos & Tsatsaronis, 2012), Tobin's Q (Elsayed, 2007; Jermias & Gani, 2014; Mínguez‐Vera & Martín‐Ugedo, 2010; Poutziouris, Savva, & Hadjielias, 2015; S. Singh, Tabassum, Darwish, & Batsakis, 2018), IPO underpricing or withdrawal (Chahine & Tohmé, 2009; Helbing, Lucey, & Vigne, 2019; Lin & Chuang, 2011), and financial performance in terms of investments and diversifications (Kim et al, 2009; Lim, 2015; Lim & McCann, 2013; D. Singh & Delios, 2017). The majority of these studies agreed that CEO duality is negatively related to firm financial performance (Duru et al, 2016; Grove, Patelli, Victoravich, & Xu, 2011; Jermias & Gani, 2014; Judge, Naoumova, & Koutzevol, 2003; Kaymak & Bektas, 2008; Naseem et al, 2019; Pi & Timme, 1993; Sanan, Jaisinghani, & Yadav, 2019; Schepker et al, 2018) and argued that role separation can facilitate better financial outcomes for companies (de Jonghe, Disli, & Schoors, 2012; De Maere et al, 2014; Li & Naughton, 2007; Rechner & Dalton, 1991; Stockmans, Lybaert, & Voordeckers, 2013; Syriopoulos & Tsatsaronis, 2012). Some also noticed that the presence of a dual CEO–chair can have detrimental effects on firm financial performance through inefficient investments (Aktas et al, 2019; Kim et al, 2009; cf.…”

“…This is particularly challenging because scholars argued that dual CEO–chairs are likely to push their boards to focus on other nonsignificant issues related to a board's work rather than ensuring the primary task of board monitoring (Tuggle et al, 2010). Further, research shows that boards led by board chairs who are also CEOs are more likely to face negative reactions from their investors when they adopt different antitakeover measures, such as poison pills (Schepker, Oh, & Patel, 2018; Sundaramurthy, Mahoney, & Mahoney, 1997). However, evidence shows that such reactions can be moderated by the presence of independent directors on the board (Mallette & Fowler, 1992; Mallette & Hogler, 1995).…”

Towards a Democratic New Normal? Investor Reactions to Interim‐Regime Dominance during Violent Events

“…Second, even if the information is accurate, it is not always perfectly correlated with the unobserved construct it is supposed to capture (Busenitz et al, 2005;Connelly et al, 2011). Nonetheless, in the absence of more reliable insights, signals are useful cues that shed at least some light on matters that investors find hard to gauge otherwise (Caner et al, 2018;Schepker et al, 2018). Investors have for instance been shown to use managers' compensation structures, acquisition experience, and cultural backgrounds as signals of managers' motives for making acquisitions (Haleblian et al, 2009;Schijven and Hitt, 2012).…”