Article

New Product Announcements, Innovation Disclosure, and Future Firm Performance

Authors:
To read the full-text of this research, you can request a copy directly from the authors.

No full-text available

Request Full-text Paper PDF

To read the full-text of this research,
you can request a copy directly from the authors.

... The surveyed papers above examine the role of disclosures in fostering innovation. Recent research by Chu et al. (2020) has investigated the 'consequences of disclosures', proxied by new product announcements (NPAs) containing more innovation words. The authors find that an increase in such favourable disclosures is associated with a significant increase in the market reaction. ...
... The LDA routine does not require a pre-specified word list related to innovation, and automatically accounts for the possibility that words have different meanings depending on contextan advantage over count-based word list techniques. However, Chu et al. (2020) point out that the use of such a model tends to favour words that are related to analysts, making analyst coverage a pre-condition for using this measure. To alleviate this bias, Chu et al. (2020) construct an innovation word list, which is directly related to the words used by managers to discuss their new production development. ...
... However, Chu et al. (2020) point out that the use of such a model tends to favour words that are related to analysts, making analyst coverage a pre-condition for using this measure. To alleviate this bias, Chu et al. (2020) construct an innovation word list, which is directly related to the words used by managers to discuss their new production development. These newly constructed innovation proxies, despite not being perfect, open up new avenues for innovation research. ...
Article
We synthesise the empirical studies on innovation in the accounting, finance, and corporate governance disciplines using Bushman and Smith’s corporate transparency framework as our theoretical lens. The review presents competing findings on the association between financial reporting and innovation. Most of the reviewed studies fail to address the critical question of how the financial reporting system affects the interactions among financial development, corporate governance and innovation. We suggest future research, ranging from enriching the theoretical perspectives to incorporating the future of innovation research in the COVID‐19 environment.
... Methodologically, we extend the approach of Bellstam et al. (2021) and provide a methodological framework based on natural language processing (NLP), using unsupervised Latent Dirichlet Allocation (LDA) topic modelling in combination with sentiment analysis. In this regard, we follow the uprising trend in the literature to derive innovation output indicators from unstructured text data (Mukherjee et al. 2017, Lenz and Winker 2020, Bellstam et al. 2021, Chu et al. 2021, Kinne and Lenz 2021. This enables us to overcome the scalability and subjectivism shortcomings of traditional survey or counting based innovation indicators to provide granular innovation data with broad coverage (Flor and Oltra 2004, Riffe et al. 2019, Sbalchiero and Eder 2020. ...
... However, their method is focused on the diffusion of technologies rather than identifying actual improvements of the respective technologies. Chu et al. (2021) use a word dictionary of innovation-related words to identify the number of innovations mentioned in new product announcements. Likewise, Mukherjee et al. (2017) use a simple keyword search on similar data. ...
Article
The recently introduced technological innovation system (TIS) life cycle allows analyzing the decline of mature technologies. This study complements the associated empirical indicators by proposing a novel text-based innovation output indicator based on the media's role in forming collective expectations. We process more than 15,000 English news articles to capture the media's reporting on technological improvements of the internal combustion engine (ICE). Our results depict an increasing number of innovation articles with positive sentiment until 2015. More recently, we observe a decrease in innovation articles. Along with the decreasing ICE sales and performance data, this weakening support of the media for the TIS innovation output suggests a possible misalignment with collective expectations that could lead to a vicious decline cycle. Our study offers a real-time indicator for monitoring innovation strategies and develops a methodological framework to derive technology-specific innovation indicators on the firm-level using unsupervised topic modelling and sentiment analysis.
Thesis
Full-text available
This is my doctorial thesis. I would like to make it publish in English, and now I am working on. This study examines the impact of two types of information, approval dates of investigational new drug (IND) and new drug application (NDA) on cumulative abnormal return (CAR) and firm performance in the Korean pharmaceutical industry. IND approval is a key step in the process of research and development (R&D), and NDA approval dates provide information on new product launches. Our findings demonstrate a positive (+) CAR for both events, utilizing the event study methodology. The CAR’s significance is observed during the periods of IND and NDA document submission. Therefore, it is crucial to account for the informational effect at the time of submission and to set the estimation period for expected return prior to document submission. This study contributes to the deliberation of estimation periods. Furthrmore, I have also observed that the stock returns of phase 3 clinical trial IND exhibit a larger response compared to those of phase 1 clinical trial. New products can be categorized into by three types; innovative new products, initial products which are non-innovative but introduced by the firm for the first time, and cannibalization-worried new products. This study makes a significant contribution to the analysis of not only non-innovative new products but also cannibalization-worried products in relation to stock returns or firm financial performance. Our results reveal a positive (+) CAR for all three types of new products. However, the magnitude of CAR is slight larger for non-innovative new products compared to innovative new products, especially during the CAR[-90, -80] period. Interestingly, cannibalization-worried products also exhibit positive (+) stock returns, indicating that investors in the market anticipate competition effects rather than cannibalization effect. To examine the impact of the number of new products on returns on asset (ROA) or sales on asset (SA), I employed a panel fixed model regression analysis. The results indicate that the introduction of an innovative product initially has a negative (-) effect on SA after 2 years, but subsequently show a positive (+) effect after 5 years on SA. On the other hand, the introduction of a cannibalization-worried product demonstrates a positive (+) effect on SA after 1 year. These findings suggest that higher levels of innovation require more time to persuade customers. Additionally, the regression analysis conducted in a group facing recent patent-related issues reveals evidence of a first mover advantage effects in ROA. Through panel fixed model regression, I have discovered that cannibalization-worried products demonstrate positive (+) effects on SA and ROA only after 1 years. On the other hand, initial products exhibit negative (-) effects on SA. These finding indicate that the challenges associated with entering a new market significantly influence the early-stage performance of the firm. I hope that this can serve as a foundation for making rational decision regarding a firm's expenditures on R&D expenditures as well as the launch of new products.
Article
Full-text available
The regression tree approach is an effective and easy to interpret technique where it utilizes a recursive binary partitioning algorithm that divides the sample into partitioning variables with the strongest correlation to the response variable. Earnings per share can be considered as one of the main factors in making the investment decision. This study aims to build a predictive model for earnings per share in the context of the Middle East and North African countries (MENA) . The sample of the study consists of sixty-three banks, which were chosen from eight countries, with a total of six-hundred thirty observations. The simple regression, regression tree, and its pruned regression tree, conditional inference tree, and cubist regression are used to build the predictive model for earnings per share that depends on total assets, total liability, bank book value, stock volatility, age of the bank, and net cash. The results show that the cubist regression is outperforming other approaches where it improves root mean square error for the predictive model by approximately double in comparison with other methods. More interesting results are obtained from the important scores, where it shows that the total assets of the bank, bank book value, and total liability have the biggest impact on the prediction of earnings per share. Also, the cubist regression gives an improvement in R-squared over other methods by at least 30% and 23% using training and testing data, respectively.
Article
Full-text available
Utilizing a database that recently became available due to the requirements of FIN45, we examine the information content of accounting disclosures on warrantiesfrom two perspectives. First, since a warranty policy is a business strategy through which firms choose to promote their products, a warranty reserve serves two roles: a signal of product quality as well as a contingent liability to be honored in thefuture. Consistent with this view, we find that the stock market recognizes thewarranty reserve as both a signal of firms future performance as well as a liability.Second, since warranty accruals require estimation of future claims, any discretionin this context can also be used as a tool of earnings management. Consistent withthis expectation, our evidence indicates that managers use warranty accruals to manage earnings opportunistically to meet their earnings targets.
Article
Full-text available
Based on data from firms in the personal computer industry, we study the effect of new product introductions on three key drivers of firm value: profit rate, profit-rate persistence, and firm size as reflected in asset growth. Consistent with our theoretical development, we find that new product introductions influence profit rate and size; however, we find no effect on profit-rate persistence. Interestingly, we also find that the effect of new product introductions on profit rate stems from a reduction in selling and general administrative expenditure intensity rather than through an increase in gross operating return. Notably, firms decrease their advertising intensity in the wake of a new product introduction. Firm profitability in this industry apparently benefits from new product introductions because new products need less marketing support than older products.
Article
Full-text available
We discuss the strengths and weaknesses of five alternative innovation indicators: R&D, patent applications, total innovation expenditure and shares in sales taken by imitative and by innovative products as they were measured in the 1992 Community Innovation Survey (CIS) in the Netherlands. We conclude that the two most commonly used indicators (R&D and patent applications) have more (and more severe) weaknesses than is often assumed. Moreover, our factor analysis suggests that there is little correlation between the various indicators. This underlines the empirical relevance of various sources of bias of innovation indicators as discussed in this paper.
Article
Full-text available
I modify the uniform-price auction rules in allowing the seller to ration bidders. This allows me to provide a strategic foundation for underpricing when the seller has an interest in ownership dispersion. Moreover, many of the so-called "collusive-seeming" equilibria disappear.
Article
We examine the determinants of vertical acquisitions using product text linked to product vocabulary from input-output tables. We find that the innovation stage is important in understanding vertical integration. R&D-intensive firms are less likely to become targets of vertical acquisitions. In contrast, firms with patented innovation are more likely to sell to vertically related buyers. Firms’ R&D intensity is a more important deterrent to their vertical acquisitions when the provision of innovation incentives by potential acquirers is more difficult. The role of patents in fostering vertical acquisitions is more prevalent when potential buyers face a higher risk of holdup. (JEL G32, G34, L22, L25, O34)
Article
We develop a new measure of innovation using the text of analyst reports of S&P 500 firms. Our text-based measure gives a useful description of innovation by firms with and without patenting and R&D (research and development). For nonpatenting firms, the measure identifies innovative firms that adopt novel technologies and innovative business practices (e.g., Walmart’s cross-geography logistics). For patenting firms, the text-based measure strongly correlates with valuable patents, which likely capture true innovation. The text-based measure robustly forecasts greater firm performance and growth opportunities for up to four years, and these value implications hold just as strongly for innovative nonpatenting firms. This paper was accepted by Gustavo Manso, finance.
Chapter
Introduction In this paper we present an overview of a series of studies pursued at the NBER during the last decade which used patent statistics to study different aspects of the economics of technological change. It consists of five substantive sections: a description of our firm level data; a report on the relationship between R&D expenditures and the level of patenting; a report on the relationship between patents, the stock market value of firms, and their R&D expenditures; a summary of work on the estimation of the value of patent rights based on patent renewal data; and a description of the use of patent data to estimate the importance of R&D spillovers. A brief set of conclusions closes the paper. The NBER R&D data base and the growth of US firms in the 1970s A major achievement of the NBER project has been the development and construction of a large data set covering the economic and technological performance of most publicly traded US manufacturing companies from the early 1960s through the early 1980s. It is the result of a detailed match of publicly available sales, employment, investment, R&D, and balance sheet information from the Compustat tapes (based on company 10–K filings with the SEC) with data acquired from the US Patent Office on patents issued to all organizations between 1969 and 1982.
Article
The authors seek to understand which of three different strategic orientations of the firm (customer, competitive, and technological) is more appropriate, when, and why it is so in the context of developing product innovations. They propose a structural model of the impact of the strategic orientation of the firm on the performance of a new product. The results provide evidence for best practices as follows: (1) A firm wishing to develop an innovation superior to the competition must have a strong technological orientation; (2) a competitive orientation in high-growth markets is useful because it enables firms to develop innovations with lower costs, which is a critical element of success; (3) firms should be consumer- and technology-oriented in markets in which demand is relatively uncertain—together, these orientations lead to products that perform better, and the firm will be able to market innovations better, thereby achieving a superior level of performance; and (4) a competitive orientation is useful to market innovations when demand is not too uncertain but should be de-emphasized in highly uncertain markets.
Article
This paper studies how hedge fund activism impacts corporate innovation. Firms targeted by activists improve their innovation efficiency over the five-year period following hedge fund intervention. Despite a tightening in research and development (R&D) expenditures, target firms increase innovation output, as measured by both patent counts and citations, with stronger effects among firms with more diversified innovation portfolios. Reallocation of innovative resources, redeployment of human capital, and change to board-level expertise all contribute to improve target firms’ innovation. Additional tests help isolate the effect of intervention from alternative explanations, including mean reversion, sample attrition, voluntary reforms, or activist stock-picking.
Article
Prior literature documents that multiple directorships are negatively associated with operating performance due to overly busy directors; however, multiple directorships may also increase firm value because directors gain access to valuable connections, resources, and information through their multiple appointments. This paper examines M&A that terminate target firms’ entire boards as a negative shock to both board busyness and connections at other firms, as a complement to Hauser (2018). We document that firms experiencing a decrease in multiple directorships due to M&A exhibit improved operating performance, monitoring, and strategic advising, on average. Firms with the smallest decrease in board connections experience the greatest improvement in operating performance and advising, while firms with the greatest decrease in board connections experience null or negative effects on operating performance and advising. Our findings provide new evidence of the costs and benefits of multiple directorships based on board busyness and connections.
Article
I examine the effects of proprietary information on corporate transparency and voluntary disclosure. To do so, I develop and validate two measures of firms’ reliance on trade secrecy: one based on 10-K disclosures and one based on subsequent litigation outcomes. I complement these measures by using the staggered passage of the Uniform Trade Secrets Act as a shock to trade secrecy. I find that firms that begin to rely more heavily on trade secrecy substitute increased voluntary disclosure of nonproprietary information for decreased disclosure of proprietary information. The total effect of trade secrecy is a decrease in corporate transparency.
Article
This paper studies whether director appointments to multiple boards impact firm outcomes. To overcome endogeneity of board appointments, I exploit variation generated by mergers that terminate entire boards and thus shock the appointments of those terminated directors. Reductions of board appointments are associated with higher profitability, market-to-book, and likelihood of directors joining board committees. The performance gains are particularly stark when directors are geographically far from firm headquarters. I conclude that the effect of the shocks to board appointments is: (i) evidence that boards matter; and (ii) plausibly explained by a workload channel: when directors work less elsewhere, their companies benefit.
Article
We introduce a firm-specific measure of the technological aspect of competition—technological peer pressure—and examine firm-initiated product development-related press releases. We argue that empirical examinations of the theorized negative relation between competition and disclosure require the type of voluntary disclosure to be relevant to the dimension of competition under examination to ensure that firms incur significant proprietary costs of disclosure. In other words, many types of disclosure do not provide actionable information to competitors and, thus, should not be affected by that dimension of competition. We expect a negative relation between technological peer pressure and product disclosure because the latter reveals firms' strategies, allocations, and progress of technological investments in product development to competitors. In contrast, we do not expect a negative relation between technological peer pressure and management earnings forecasts—the most common type of voluntary disclosure used in accounting research. Our test results are consistent with these expectations. Data Availability: All data are available from public sources. Our TPP Measure is available for download, please see the link in Appendix G.
Article
We study how firms differ from their competitors using new time-varying measures of product similarity based on text-based analysis of firm 10-K product descriptions. This year-by-year set of product similarity measures allows us to generate a new set of industries in which firms can have their own distinct set of competitors. Our new sets of competitors explain specific discussion of high competition, rivals identified by managers as peer firms, and changes to industry competitors following exogenous industry shocks. We also find evidence that firm R&D and advertising are associated with subsequent differentiation from competitors, consistent with theories of endogenous product differentiation.
Article
We exploit the change in U.S. segment reporting rules (from SFAS No. 14 to SFAS No. 131) to examine two motives for managers to conceal segment profits: proprietary costs and agency costs. Managers face proprietary costs of segment disclosure if the revelation of a segment that earns high abnormal profits attracts more competition and, hence, reduces the abnormal profits. Managers face agency costs of segment disclosure if the revelation of a segment that earns low abnormal profits reveals unresolved agency problems and, hence, leads to heightened external monitoring. By comparing a hand-collected sample of restated SFAS No. 131 segments with historical SFAS No. 14 segments, we examine at the segment level whether managers' disclosure decisions are influenced by their proprietary and agency cost motives to conceal segment profits. Specifically, we test two hypotheses: (1) when the proprietary cost motive dominates, managers tend to withhold the segments with relatively high abnormal profits (hereafter, the proprietary cost motive hypothesis), and (2) when the agency cost motive dominates, managers tend to withhold the segments with relatively low abnormal profits (hereafter, the agency cost motive hypothesis). Our results are consistent with the agency cost motive hypothesis, whereas we find mixed evidence with regard to the proprietary cost motive hypothesis.
Article
Using an experimental design that exploits exogenous reductions in coverage resulting from brokerage house mergers, we find that a reduction in coverage causes a deterioration in financial reporting quality. The effect of coverage on disclosure is more pronounced for firms with weak shareholder rights, consistent with a substitution effect between analyst monitoring and other corporate governance mechanisms. The effects we uncover using our experimental design are an order of magnitude larger than estimates from ordinary least squares regressions that do not account for the endogeneity of coverage. Overall, our results suggest that security analysts monitor managers and entrenched managers adopt less informative disclosure policies in the absence of such scrutiny.
Article
How to measure R&D capabilities is a key concern for policymakers and practitioners alike. This paper examines the changing role of patents and firm publications as a signal of scientific and technical competence. We argue that recent patent reforms might have reduced the informational value of USPTO patents relative to EPO patents. Moreover, the global trend toward stronger patent enforcement may have raised the cost of freely disclosing research results in the scientific domain. Using data from more than 33,000 mergers and acquisitions deals between 1985 and 2007, we provide support for these conjectures. Controlling for patent citations or restricting attention to specialized or within-country deals reduces as expected the relative importance of EPO patents. Our results do not appear to be driven by changes in the importance of patenting in multiple jurisdictions.
Article
Prior research argues that a manager whose wealth is more sensitive to changes in the firm’s stock price has a greater incentive to misreport. However, if the manager is risk-averse and misreporting increases both equity values and equity risk, the sensitivity of the manager’s wealth to changes in stock price (portfolio delta) will have two countervailing incentive effects: a positive “reward effect” and a negative “risk effect.” In contrast, the sensitivity of the manager’s wealth to changes in risk (portfolio vega) will have an unambiguously positive incentive effect. We show that jointly considering the incentive effects of both portfolio delta and portfolio vega substantially alters inferences reported in prior literature. Using both regression and matching designs, and measuring misreporting using discretionary accruals, restatements, and SEC Accounting and Auditing Enforcement Releases, we find strong evidence of a positive relation between vega and misreporting and that the incentives provided by vega subsume those of delta. Collectively, our results suggest that equity portfolios provide managers with incentives to misreport when they make managers less averse to equity risk.
Article
We investigate the relative importance of the twenty-four provisions followed by the Investor Responsibility Research Center (IRRC) and included in the Gompers, Ishii, and Metrick governance index (Gompers, Ishii, and Metrick 2003). We put forward an entrenchment index based on six provisions: staggered boards, limits to shareholder bylaw amendments, poison pills, golden parachutes, and supermajority requirements for mergers and charter amendments. We find that increases in the index level are monotonically associated with economically significant reductions in firm valuation as well as large negative abnormal returns during the 1990–2003 period. The other eighteen IRRC provisions not in our entrenchment index were uncorrelated with either reduced firm valuation or negative abnormal returns.
Article
The effect of disclosure level on the cost of equity capital is a matter of considerable interest and importance to the financial reporting community. However, the association between disclosure level and cost of equity capital is not well established and has been difficult to quantify. In this paper I examine the association between disclosure level and the cost of equity capital by regressing firm-specific estimates of cost of equity capital on market beta, firm size and a self-constructed measure of disclosure level. My measure of disclosure level is based on the amount of voluntary disclosure provided in the 1990 annual reports of a sample of 122 manufacturing firms. For firms that attract a low analyst following, the results indicate that greater disclosure is associated with a lower cost of equity capital. The magnitude of the effect is such that a one-unit difference in the disclosure measure is associated with a difference of approximately twenty-eight basis points in the cost of equity capital, after controlling for market beta and firm size. For firms with a high analyst following, however, I find no evidence of an association between my measure of disclosure level and cost of equity capital perhaps because the disclosure measure is limited to the annual report and accordingly may not provide a powerful proxy for overall disclosure level when analysts play a significant role in the communication process.
Article
This paper demonstrates that a firm's trade-offs between reporting good news to reduce the cost of capital and bad news to minimize proprietary costs can induce the firm's manager to provide truthful disclosures when the opposing effects balance each other. We also show that greater proprietary costs can make a firm's disclosures more credible, increase the frequency of voluntary adverse disclosures, and improve the disclosing firm's welfare. Further, we find that potential shareholder litigation can interact with capital and product markets' influences to make voluntary disclosures more credible, but only under certain circumstances. For example, although product market competition can complement the capital market effects in inducing the manager to provide truthful disclosures, shareholder litigation cannot complement the capital market in the same way. Nevertheless, while shareholder litigation can never induce misreporting, a very strong product market influence can prompt a firm to underreport its true economic condition.
Article
The extant literature shows that the strength of the market orientation–performance relationship decays as the terminal measure of performance shifts from new product success to profitability to market share. As Day (1999) concluded, a broader nomological inquiry is needed to more fully understand the nature and limits of market orientation's effects. This suggests that a broader nomological inquiry is needed to fully understand the nature and limits of market orientation's effects. Utilizing a national sample of marketing executives, the present study's purpose is to build a fuller understanding of the effects of market orientation on firm performance. Its structural equations model includes measures of new product success, profitability, and market share. The research reinforces a strong positive relationship between market orientation and new product success. The expanded nomological network under study, however, implies barriers to market orientation's effectiveness. First, market-orientation-inspired increases in the priority firms place on “breakthrough” learning without commensurate increases in the priority placed on “breakthrough” innovation capabilities can boomerang and negatively impact new product success. Second, market-orientation-inspired new product development programs that are unable to increase market share can negatively impact profitability. These gatekeepers to the success of market orientation underscore the need for firms to coordinate a strong market orientation with resources and capabilities that increase the effectiveness of the marketing function. Without such coordination, the positive effect of market orientation on new product success may be limited to incremental innovations, and the overall effect of successful new products on profitability may be limited.
Article
We examine the role of strategic interaction in explaining the valuation effect of new product announcements and employ Sundaram, John, and John's (1996) competitive strategy measure to operationalize the nature of a firm's competitive interaction. Using a sample of new product introductions between 1991 and 1995, we find that the market values introductions announced by firms in strategic substitutes competition more favorably than those announced by firms in strategic complements competition. These results hold after we control for other variables that could explain the announcement effect. We also find that industry rivals of those announcing firms that compete in strategic substitutes and experience a positive announcement effect generally suffer a small, but significant wealth loss. The evidence supports the notion that the nature of competitive interaction in an industry is important in assessing the effect of corporate product strategies on shareholder value.
Article
This paper investigates whether a firm's disclosure practices affect the composition of its institutional investor ownership and, hence, its stock return volatility. The findings indicate that firms with higher AIMR disclosure rankings have greater institutional ownership, but the particular types of institutional investors attracted to greater disclosure have no net impact on return volatility. However, yearly improvements in disclosure rankings are associated with increases in ownership primarily by "transient" institutions, which are characterized by aggressive trading based on short-term strategies. Firms with disclosure ranking improvements resulting in higher transient ownership are found to experience subsequent increases in stock return volatility.
Article
Effective product launch is a key driver of top performance, and launch is often the single expensive step in new product development. The extant literature on product launch to identify the most critical strategic, tactical, and information-gathering activities influencing the launch success was reviewed. A retrospective methodology was used to gather managerial perceptions regarding launch activities pertaining to a recent new product launch, and the product's performance in terms of profitability, market share, and relative sales. Results and observations on the survey were presented.
Article
Significant market value effects of research and development (R&D) are generally apparent, but aggregate evidence has the potential to obscure meaningful differences according to firm size. Consistent with findings reported by Chauvin and Hirschey (1993) for the late 1980s, valuation effects of R&D remain somewhat greater for larger as opposed to smaller firms.
Article
Previous research uses negative word counts to measure the tone of a text. We show that word lists developed for other disciplines misclassify common words in financial text. In a large sample of 10-Ks during 1994 to 2008, almost three-fourths of the words identified as negative by the widely used Harvard Dictionary are words typically not considered negative in financial contexts. We develop an alternative negative word list, along with five other word lists, that better reflect tone in financial text. We link the word lists to 10-K filing returns, trading volume, return volatility, fraud, material weakness, and unexpected earnings.
Article
This paper investigates consumer responses to new smart products. Due to the application of information technology, smart products are able to collect, process, and produce information and can be described as “thinking” for themselves. In this study, 184 consumers respond to smart products that are characterized by two different combinations of smartness dimensions. One group of products shows the smartness dimensions of autonomy, adaptability, and reactivity. Another group of smart products are multifunctional and able to cooperate with other products. Consumer responses to these smart products are measured in terms of the innovation attributes of relative advantage, compatibility, observability, complexity, and perceived risk. The study shows that products with higher levels of smartness are perceived to have both advantages and disadvantages. Higher levels of product smartness are mainly associated with higher levels of observability and perceived risk. The effects of product smartness on relative advantage, compatibility, and complexity vary across product smartness dimensions and across product categories. For example, higher levels of product autonomy are perceived as increasingly advantageous whereas a high level of multifunctionality is perceived disadvantageous. The paper discusses the advantages and pitfalls for each of the five product smartness dimensions and their implications for new product development and concludes with a discussion of the limitations of the study and suggestions for further research.
Article
We investigate the effects of vertical integration on operational performance. Large U.S. airlines use regional partners to operate some of their flights. Regionals may be owned or governed through contracts. We estimate whether an airline's use of an owned, rather than independent, regional at an airport affects delays and cancellations on the airline's own flights out of that airport. We find that integrated airlines perform systematically better than nonintegrated airlines at the same airport on the same day. Furthermore, the performance advantage increases on days with adverse weather and when airports are more congested. These findings suggest that, in this setting, vertical integration may facilitate real-time adaptation decisions.
Article
Innovation is defined as the development and implementation of new ideas by people who over time engage in transactions with others within an institutional order. This definition focuses on four basic factors (new ideas, people, transactions, and institutional context). An understanding of how these factors are related leads to four basic problems confronting most general managers: (1) a human problem of managing attention, (2) a process problem in managing new ideas into good currency, (3) a structural problem of managing part-whole relationships, and (4) a strategic problem of institutional leadership. This paper discusses these four basic problems and concludes by suggesting how they fit together into an overall framework to guide longitudinal study of the management of innovation.
Article
We investigate the relation between the CEO Pay Slice (CPS)--the fraction of the aggregate compensation of the top-five executive team captured by the Chief Executive Officer--and the value, performance, and behavior of public firms. The CPS could reflect the relative importance of the CEO as well as the extent to which the CEO is able to extracts rents. We find that, controlling for all standard controls, CPS is negatively associated with firm value as measured by industry-adjusted Tobin's q. CPS also has a rich set of relations with firms' behavior and performance. In particular, CPS is correlated with lower (industry-adjusted) accounting profitability, lower stock returns accompanying acquisitions announced by the firm and higher likelihood of a negative stock return accompanying such announcements, higher odds of the CEO receiving a lucky option grant at the lowest price of the month, lower performance sensitivity of CEO turnover, and lower stock market returns accompanying the filing of proxy statements for periods when CPS increases. Taken together, our results are consistent with the hypothesis that higher CPS is associated with agency problems and indicate that CPS can provide a useful tool for studying the performance and behavior of firms.
Article
GAAP mandates the full expensing of R&D in financial statements, presumably because of concerns with the reliability, objectivity, and value-relevance of R&D capitalization. To address these concerns, we estimate the R&D capital of a large sample of public companies and find these estimates to be statistically reliable and economically meaningful. We then adjust the reported earnings and book values of sample firms for the R&D capitalization and find that such adjustments are value-relevant to investors. Finally, we document a significant intertemporal association between firms' R&D capital and subsequent stock returns, suggesting either a systematic mispricing of the shares of R&D-intensive companies, or a compensation for an extra-market risk factor associated with R&D.
Article
We investigate the incentives that led to the rash of restated financial statements at the end of the 1990s market bubble. We find that the likelihood of a misstated financial statement increases greatly when the CEO has very sizable holdings of in-the-money stock options. Misstatements are also more likely for firms that are constrained by an interest-coverage debt covenant, that raise new debt or equity capital, or that have a CEO who serves as board chair. Our results indicate that agency costs increased [Jensen, M.C., 2005a, Agency costs of overvalued equity. Financial Management 34, 5–19] as substantially overvalued equity caused managers to take actions to support the stock price.
Article
This study investigates the stock market's valuation of the R&D expenditure plans of U.S. firms. A model that relates expenditures on innovative activity to the market value of the firm is set forth and tested for a sample of announcements that were made by firms that accounted for over 58% of company-funded R&D in the United States in 1984. The results, which are consistent with the predictions of the model, reveal significant differences in the abnormal returns for firms operating in different marketing environments. In particular, for firms in industries characterized by high (low) seller concentration, announcements of increases in planned R&D expenditures are associated with significant positive (negative) excess stock returns. This is also consistent with a Schumpeterian view on the relationship between market structure and innovation that predicts a differential market response to R&D that depends on the firm's market concentration. In addition, there is evidence that the market responds favorably to larger R&D spending increases, after accounting for differences in firms' knowledge capital bases. Finally, there is evidence that the rate of return to investment in R&D is quite high, in conformity with previous work.
Article
This paper examines the relation between annual report readability and firm performance and earnings persistence. I measure the readability of public company annual reports using the Fog index from the computational linguistics literature and the length of the document. I find that: (1) the annual reports of firms with lower earnings are harder to read (i.e., they have a higher Fog index and are longer); and (2) firms with annual reports that are easier to read have more persistent positive earnings.
Article
I review empirical research on the relation between capital markets and financial statements. The principal sources of demand for capital markets research in accounting are fundamental analysis and valuation, tests of market efficiency, and the role of accounting numbers in contracts and the political process. The capital markets research topics of current interest to researchers include tests of market efficiency with respect to accounting information, fundamental analysis, and value relevance of financial reporting. Evidence from research on these topics is likely to be helpful in capital market investment decisions, accounting standard setting, and corporate financial disclosure decisions.
Article
We describe how managers can entrench themselves by making manager-specific investments that make it costly for shareholders to replace them. By making manager-specific investments, managers can reduce the probability of being replaced extract higher wages and larger perquisites from shareholders, and obtain more latitude in determining corporate strategy. Our model of entrenchment has empirical implications that are consistent with the evidence on managerial behavior.
Article
Union Carbide's chemical leak in Bhopal, India during December 1984 resulted in approximately 4,000 deaths and 200,000 injuries. This study examines the market reaction of chemical firms other than Union Carbide to this catastrophe. Evidence indicates that a significant negative intra-industry reaction occurred. However, firms with more extensive environmental disclosures in their financial report prior to the chemical leak experienced a less negative reaction than firms with less extensive disclosures. This result suggests that investors interpreted such disclosures as a positive sign of the firm managing its exposure to future regulatory costs.
Article
We survey and interview more than 400 executives to determine the factors that drive reported earnings and disclosure decisions. We find that managers would rather take economic actions that could have negative long-term consequences than make within-GAAP accounting choices to manage earnings. A surprising 78% of our sample admits to sacrificing long-term value to smooth earnings. Managers also work to maintain predictability in earnings and financial disclosures. We also find that managers make voluntary disclosures to reduce information risk and boost stock price but at the same time, try to avoid setting disclosure precedents that will be difficult to maintain.
Article
We contrast the informativeness of earnings and dividends for firms with dual class and single class ownership structures. Results of both across-sample tests (which explicitly control for factors influencing ownership structure and informativeness) and within-sample tests (which implicitly control for factors associated with ownership structure) show that earnings are generally less informative, and dividends are at least as (if not more) informative, for dual class firms. We interpret these results as suggesting that the net effect of dual class structures is to reduce the credibility of earnings and to enhance the salience of dividends as measures of performance.
Article
In this paper, I propose that technological innovations increase expected stock returns and premiums at the aggregate level. I use aggregate patent data and research and development (R&D) data to measure technological innovations in the U.S., and find that patent shocks and R&D shocks have positive and distinct predictive power for U.S. market returns and premiums. Similar patterns are also found in international data including other G7 countries, China, and India. These findings are consistent with previous empirical studies based on firm-level data, and call for further theoretical explanations.
Article
We provide empirical evidence of a strong causal relation between managerial compensation and investment policy, debt policy, and firm risk. Controlling for CEO pay-performance sensitivity (delta) and the feedback effects of firm policy and risk on the managerial compensation scheme, we find that higher sensitivity of CEO wealth to stock volatility (vega) implements riskier policy choices, including relatively more investment in R&D, less investment in PPE, more focus, and higher leverage. We also find that riskier policy choices generally lead to compensation structures with higher vega and lower delta. Stock-return volatility has a positive effect on both vega and delta.
Article
Researchers have used various measures as indications of “earnings quality” including persistence, accruals, smoothness, timeliness, loss avoidance, investor responsiveness, and external indicators such as restatements and SEC enforcement releases. For each measure, we discuss causes of variation in the measure as well as consequences. We reach no single conclusion on what earnings quality is because “quality” is contingent on the decision context. We also point out that the “quality” of earnings is a function of the firm’s fundamental performance. The contribution of a firm’s fundamental performance to its earnings quality is suggested as one area for future work.
Article
The objective of this study is to provide evidence on how technological innovation conditions underlying the firm's investments drive earnings growth and, hence, market value of equity. Technologies develop and flourish or die out through the combined investment decisions of those firms doing the inventing, and those firms that adopt those inventions, and thereby help to spread (or diffuse) the innovations into wider use. Hence, technology is important for the investment decisions of all firms, regardless of whether they patent. We focus on three aggregate measures of technological innovation conditions: the success rate of past technological investments, technology complexity, and the technology development period. We use the interactions between each of these three conditions with earnings to capture the combined effect on market value of a firm's technological innovation environment. Our sample comprises 12,594 U.S. firm years for the period 1990–2000 including firms actively producing new technologies and firms that adopt technologies for their processes and products. Our primary and additional tests suggest that the interactions capture value-relevant information not reflected in commonly used variables including industry, research and development, sales, general, and administration expenses, risk, and growth. We also triangulate our results by providing evidence that aggregate technological innovation conditions predict future earnings and are, hence, instrumental in the earnings-generation process. This paper extends the valuation literature by (1) developing a generalizable framework that explains how technological innovation conditions link to future earnings and therefore map into the market value of equity; (2) developing aggregate measures of technological innovation conditions that are relevant for estimating future earnings and value for all firms; and (3) providing detailed empirical evidence on the relation between these aggregate measures and the market value of equity and earnings for all firms not just those that patent.
Article
We find that, on average, rivals of firms announcing new products experience a significantly negative wealth effect. We also show that rivals in technologically based industries experience the most significantly unfavorable effect. Rivals' share price response is more unfavorable when the wealth effect on the announcers is larger and when frequent announcers introduce new products. Smaller rivals and those with better investment opportunities also are more adversely affected. Further, highly leveraged rivals, especially those in concentrated industries, experience a greater wealth loss. However, we find that rivals' wealth effects are more favorable when the products introduced are very new.