Corporate earnings announcements are more than just signals for investors and employees. While it’s expected that investors and employees closely watch news that affects their wealth, surprising earnings reports also impact the local communities. This is the main finding of a new paper by three Stanford Graduate School of Business professors.
“When local people see a company doing well, they expect more local investment,” the researchers say. “They believe they could also benefit.”
Positive news
Positive earnings news spreads through conversations among family and neighbors, leading to hopes of more jobs or local investments. Bad earnings news, on the other hand, suggests possible layoffs and budget cuts.
“Earnings reports act as clues for other important news, like job prospects or local economic policies,” the authors explain.
The researchers found that unexpected earnings news significantly affects local consumer spending, which is crucial since consumer spending makes up 68% of the U.S. economy.
Using data from major U.S. banks and anonymized Mastercard credit card transactions, the researchers tracked changes in spending around company headquarters after earnings surprises. They found these changes could last for up to 15 months or more.
Discretionary spend
Discretionary purchases, which people adjust based on their expected income, were most affected. Positive signals led to more spending on dining out and entertainment, while negative news caused people to cut back. However, these reactions were mostly limited to smaller expenses, not major purchases or retirement savings changes.
The impact of earnings surprises was greatest in communities with a single dominant employer, like Benton Harbor, Michigan, where Whirlpool is based.
To support their findings, the researchers surveyed 500 households nationwide. Most people said they got news about companies online, through social media, or by word of mouth. Nearly 50% said financial news about local firms influenced their spending because they expected more job or investment opportunities. On average, people spent 3% more after good news and 7% less after bad news.
Spending changes were 60% larger among lower-income individuals after positive earnings news and 85% larger after negative news. Lower-income individuals spend a larger share of their income on daily expenses compared to higher-income individuals who save more.
The study also showed that consumers quickly reduce spending after fraud is revealed.
“After fraud is announced, people cut back a lot,” the researchers say. “Fraud announcements also change consumer behavior.”
When people learn past earnings reports were inflated, they sharply reduce discretionary spending. For example, after WorldCom announced in 2002 that it had fraudulently overstated its assets by over $11 billion, economic activity in its hometown of Clinton, Mississippi, dropped sharply.
The takeaway: Corporate governance and transparency affect more than investors and employees. They impact the financial behavior of everyday consumers.
“Companies might not realize how their actions affect local households,” the authors conclude. “Being transparent and avoiding fraud is part of being responsible.”
