Mistaking Bad News for Good News : Mispricing of a Voluntary Disclosure

Why does the market react to companies’ announcements of strategic alternatives with a +5.2 percent return, only to experience a future return of -9.7 percent? We find evidence consistent with a mispricing explanation in that: (i) investors and analysts are overly optimistic about a potential transaction; (ii) investors and analysts do not fully incorporate the signal of the firm’s declining fundamentals, and future earnings announcements correct their overly optimistic expectations; and (iii) activating the proposed mispricing mechanism in an experiment causes relatively optimistic assessments of strategic alternatives disclosures. Finally, we document the roles of investor sophistication and investor learning and evaluate alternative explanations for the abnormal returns. This study sheds light on an important corporate disclosure that the market appears to misconstrue