Financial performance following discontinued operations

Abstract

Purpose Prior literature provides empirical evidence that financial performance improves for core remaining operations after a firm discontinues some of their operations. This study aims to examine whether the association between discontinued operations and future financial performance improvement is affected by a regulatory rule (i.e. Statement of Financial Accounting Standards 144 [SFAS 144]) that significantly altered the reporting requirements of discontinued operations. This study also examines whether the association is dependent on the profitability of the operations discontinued. Design/methodology/approach Ordinary least square regressions are used to test the association between discontinued operations and financial performance improvement, conditional on the profitability of operations discontinued in the pre-SFAS 144 and SFAS 144 regulatory regimes. Data on profitability of operations discontinued is hand-collected. Findings Results suggest that firms experience improvement in financial performance following the reporting of discontinued operations in the pre-SFAS 144 era. Using hand-collected data on the profitability of operations discontinued, this research study also shows that improvement in performance is stronger for firms that discontinue loss operations compared to those that discontinue profitable operations. Originality/value This study explores the impact of regulatory change on the association between discontinued operations and future performance. Furthermore, unique hand-collected data is used to understand whether financial performance improvement is conditional on the profitability of the operations discontinued. Results documented in this paper should be of interest to investors, regulators and analysts in understanding the long-term strategic implications of discontinued operations.

Reporting of discontinued operations and dividend payout policy

“…Similarly, Weston (1989) and Bergh (1997) note that a significant number of discontinuations feature the disposal of valuable but unwanted operating units. Extending this literature, Guragai and Hutchison (2020) show that financial performance improvement is stronger for firms that discontinue loss operations compared to those that discontinue profitable operations, but only in the period prior to implementation of SFAS 144. Chen and Zhang (2007) develop a theoretical model to explain corporate divestment and empirically show that DOs decisions are preceded by an increased divergence in profitability between discontinued and continuing segments of the firm.…”

“…Firms may report either income-increasing or income-decreasing DOs. Income-increasing DOs are generally associated with a gain on disposal (Saito, 2019;Guragai and Hutchison, 2020). It is reasonable to expect that firms with income-increasing DOs should be able to generate additional resources that can be discretionally distributed to shareholders.…”