Market reaction to asymmetric cost behavior: the impact of long-term growth expectations

Abstract

We investigate whether asymmetric cost behavior (also termed cost stickiness) and investors’ assessment of asymmetric cost behavior are affected by firms’ long-term growth expectations. Using a sample of US firms for the period 1990–2014, we first predict and find that cost stickiness, though a short-term phenomenon, is greater when firms have high rather than low long-term growth expectations. Second, we predict that unexpected cost stickiness is negatively evaluated by investors. Investigating cumulative abnormal returns surrounding earnings announcement dates, we find support for this prediction. Third, we investigate this finding in more detail, dependent on long-term growth. We argue that the reasons for cost asymmetry differ between firms with high versus low long-term growth expectations. We expect these differences to result in differing investor reactions. In line with this prediction, our results reveal that investors react more negatively to unexpected cost stickiness when a firm has low long-term growth opportunities. This finding supports the assumption that investors perceive agency motives as more likely to explain the unexpected cost stickiness for these firms.