XYZ Ltd. is a large retail company listed on a major stock exchange, and its reported net income for the year ended December 31, 2019, is $5 million. The earnings were announced to the public on March 31, 2020. Just before the release of the 2019 earnings on March 31, 2020, financial analysts had predicted the companys net income for 2019 to be $7 million.

Assumptions

No other news about XYZ Ltd. was released to the public on March 31, 2020.

No significant economy-wide events affecting share prices occurred on March 31, 2020

Consider the two situations below:

i The $2 million deviation of forecasted earnings from actual earnings is completely accounted for by XYZ Ltd.s having closed down a number of its retail outlets.

ii The $2 million deviation of the forecasted earnings from actual earnings is completely accounted for by a fire in XYZ Ltd.s largest retail outlet, which had caused

the outlet to be closed temporarily for six months.

A. Which event would likely cause the largest impact on the share price in an efficient market a loss from a fire disaster that disrupts business for a short period of time, or a similar size loss from closing a large number of stores?

B. Would the market reaction to the fire disaster be positive or negative? Would you expect the market reaction to the store closings to be positive or negative? Defend and explain each answer.

[assume that the market was unaware of the fire disaster or the store closings, as the case might be, prior to the earnings announcement. Thus, when the company reported earnings, it also disclosed for the first time the cause of the earnings shortfall. The assumption means that we have a scenario where the disclosure of the earnings shortfall and the simultaneous disclosure of the reason for the shortfall is both news to the market.]