Foreign Investors' Reaction to Lower Profitability – The Role of Information Asymmetry


  • *Comments received when presenting the paper at the Corporate Finance Day at K.U. Leuven, the joint finance seminar at the Helsinki School of Economics, research seminars at the Bank of Finland and at Monash University, the Helsinki Center for Economic Research, Yale University, Bank of Slovenia, CERGE-EI, Prague, and University of Bath are gratefully acknowledged. We are also grateful for competent research assistance provided by Christian Hohentahl and Henrik Keinonen, proofreading by Angelo Aspris, and for financial support provided by Stiftelsen Svenska Handelshögskolan (Tom Berglund) and the University of Sydney Research and Development Grant Scheme (Joakim Westerholm).

Tom Berglund
Hanken School of Economics and Business Administration


Owners of firms in trouble are more exposed to moral hazard problems than owners of successful firms. Foreign owners who face higher costs to monitor the firm should be more vulnerable to these problems than domestic ones. Consequently, a downward revision in a firm's expected future earnings should push foreign investors to sell their shares to a larger extent than domestic investors. We test this hypothesis on profit warnings issued at the Helsinki Stock Exchange. Our results reveal that in the wake of profit warnings foreign investors will predominantly sell, while domestic investors pick up the net sales by foreigners. Differences in the scale of the foreign investor sell-out reaction are explained by a number of variables. The most significant one is our proxy for the magnitude of surprise in the warning. The reaction also increases with the degree of perceived information asymmetry for the firm that issued the warning, while foreign members on the firm's board have a moderating impact. By contrast, a number of general corporate governance-related variables have no statistically significant impact on the reaction.