Stock Prices of Public Firms and Their Spillover on Privately Held Companies: Evidence of Negative Externalities

Abstract

Stock prices of publicly-traded firms can affect the corporate decisions of private firms in the same industry by providing relevant industry- and market-wide information. Using data from Korea for the period of 2000-2015, we find that the investment decisions of private firms are associated with public peer q-ratio. Such a positive relationship is more pronounced when private firms and their public peers are fundamentally correlated. Moreover, our results are consistent with the predictions of social learning hypothesis. Investment decisions among private firms are more likely to rely on public information as their own private signal is less reliable or as public information is more reliable. We further confirm that information quality of own information and public information jointly affect the dependence of investment decisions of private firms. Furthermore, the ability of private firms to raise additional debt or equity capital is related to the average q-ratio of their industry peers. It seems that the positive relation between private firms’ investment decisions as well as financing decisions can be explained in rational settings.