Accuracy For Firms Research Articles

An unpleasant small-stock effect in manufacturing: the case of the dependent buyer

Purpose The purpose of this paper is to determine if there is a significant difference in the investment risks between small-cap manufacturers that heavily depend on one or a few buyers, referred to as “dependent-buyers,” and small-cap manufacturers that have a more diversified customer base. If there is a significant difference both statistically and economically, then investors need to be aware of the dependent-buyer effect in their security selection and portfolio construction efforts. Design/methodology/approach Using large samples of firm-level data from 2000 through 2011, the authors employ standard risk estimation modeling to compute βs, idiosyncratic risks, and total risks of both dependent-buyer firms and firms with a more diversified customer base. Findings The authors find that the βs, idiosyncratic risks, and total risks of dependent-buyer firms are much greater than that of firms not in dependent relationships. These differences are both statistically and economically significant. Research limitations/implications Buyer-supplier relationships can change quickly, and so a firm that has a diversified base in one period, for example, could be a dependent-buyer in the next period. Much depends on the reporting accuracy of firms and the ability of the securities exchange commission (SEC) to track the relationships. Practical implications First, the risk of individual small-cap stocks is likely to be greater than perceived from macro-level data, leading to the need for more securities if idiosyncratic risk is to be eliminated. Second, small-cap investors have the opportunity to enhance portfolio construction efficiency by referencing data published by the SEC. Third, most investors interested in small-cap manufacturing stocks should find it prudent to allocate a large percentage of their small-cap investments to an index fund. While this may sacrifice higher returns, it also reduces the probability of experiencing an unpleasant small-stock effect. Originality/value This is the first study to show that the difference in investment risks between small-cap manufacturers that depend on one or a few firms for their outputs and small-cap manufacturers that have a well-diversified customer base is statistically and economically significant, information that should be valuable to investors in their security selection and portfolio construction efforts.

The Impact of Hiring a Reputable Underwriter on the Information Environment of Cross-Listed Firms

In this paper I examine how the information environment of cross-listed firms is affected by a mechanism of reputational bonding: the choice of a reputable underwriter to sponsor an equity offering. Using a sample of cross-listed firms from 1980 to 2004, I find that those that raise equity and hire a reputable underwriter, within three years after the event, observe higher analyst coverage and more accurate earnings forecasts. Empirical evidence shows that these improvements in the firm’s information environment are positively related to firm value. More importantly, the improved accuracy of firms sponsored by top underwriters has an additional positive impact on their Tobin’s q. Overall, the results of this paper show that top underwriters play an important monitoring role, via their impact on firm’s information environment.

Management Insights

Management Insights

An Evolutionary Model of Price Competition Among Spatially Distributed Firms

Various studies have shown the emergence of cooperative behavior in evolutionary models with repeated local interaction among spatially distributed agents. We investigate to what extent these findings generalize to evolutionary models of price competition among spatially distributed firms. We consider both one- and two-dimensional models, and we vary the amount of information firms have about competitors in their neighborhood. Our computer simulations show that the emergence of cooperative behavior depends strongly on the amount of information available to firms. Firms tend to behave most cooperatively if they have only a very limited amount of information about their competitors. We provide an intuitive explanation for this phenomenon. Our simulations further indicate that three other factors in our models, namely the accuracy of firms' information, the probability of experimentation, and the spatial distribution of consumers, have little effect on the emergence of cooperative behavior.

The impact of hiring a reputable underwriter on the information environment of cross-listed firms

ABSTRACTI examine how the information environment of cross-listed firms is affected by a mechanism of reputational bonding: the choice of a reputable underwriter to sponsor an equity offering. Using a sample of foreign firms cross-listed in the U.S. from 1980 to 2004, I find that those that raise equity and hire a reputable underwriter, post cross-listing, observe higher analyst coverage and more accurate earnings forecasts. Empirical evidence shows that these improvements are positively related to firm value. More importantly, the improved accuracy of firms sponsored by top underwriters has an additional positive impact on their Tobin's q. Overall, the results show that top underwriters play an important monitoring role, via their impact on firm's information environment.

Lens or Prism? Patent Citations as a Measure of Knowledge Flows from Public Research

This paper assesses the validity and accuracy of firms' backward patent citations as a measure of knowledge flows from public research by employing a newly constructed dataset that matches patents to survey data at the level of the R&D lab. Using survey-based measures of the dimensions of knowledge flows, we identify sources of systematic measurement error associated with backward citations to both patent and nonpatent references. We find that patent citations reflect the codified knowledge flows from public research, but they appear to miss knowledge flows that are more private and contract-based in nature, as well as those used in firm basic research. We also find that firms' patenting and citing strategies affect patent citations, making citations less indicative of knowledge flows. In addition, an illustrative analysis examining the magnitude and direction of measurement error bias suggests that measuring knowledge flows with patent citations can lead to substantial underestimation of the effect of public research on firms' innovative performance. Throughout our analyses we find that nonpatent references (e.g., journals, conferences, etc.), not the more commonly used patent references, are a better measure of knowledge originating from public research.

Lens or Prism? A Comparative Assessment of Patent Citations as a Measure of Knowledge Flows from Public Research

This paper assesses the validity and accuracy of firms’ backward patent citations as a measure of knowledge flows from public research by employing a newly constructed dataset that matches patents to survey data at the level of the R&D lab. Using survey-based measures of the dimen-sions of knowledge flows, we identify sources of systematic measurement error associated with backward citations to both patent and nonpatent references. We find that patent citations reflect the codified knowledge flows from public research, but they appear to miss knowledge flows that are more private and contract-based in nature, as well as those used in firm basic research. We also find that firms’ patenting and citing strategies affect patent citations, making citations less indicative of knowledge flows. In addition, an illustrative analysis examining the magnitude and direction of measurement error bias suggests that measuring knowledge flows with patent citations can lead to substantial underestimation of the effect of public research on firms’ innova-tive performance. Throughout our analyses we find that nonpatent references (e.g., journals, con-ferences, etc.), not the more commonly used patent references, are a better measure of knowledge originating from public research.

Firms’ Forecast Errors Regarding Their Own Future Key Figures: The Disappearance of the Overoptimism Bias

I analyze the accuracy of firms’ forecasts of their own future sales (and workforce numbers), which German companies provided secretly to the IAB Establishment Panel. Previous empirical evidence, using forecasts from public disclosures, revealed that managers’ earnings or sales forecasts on average show a bias towards overoptimism. However, in the present study the average firm is found to be very well able to correctly forecast its own future key figures. I suggest that public disclosed forecasts are on average overoptimistic because they serve as a signal to investors, while the ones in this dataset do not. Although I also find a large fraction of firms to be persistently overoptimistic over time, the share of steadily overpessimistic firms is even slightly larger.

Distributional assumptions in the theory of oligopoly information exchange

We analyze the profitability of information sharing among Cournot oligopolists receiving private information about random demand. In this setting, previous authors showed information exchange to be unprofitable when firms' marginal costs are constant and outputs are perfect substitutes. We introduce a measure of the increase in the accuracy of firms' demand forecasts when information is shared. We provide two examples showing when this measure is large, information exchange is profitable, even though firms' marginal costs are constant and outputs are perfect substitutes. Moreover, we show that in the linear-conditional-expectations framework, which has been standard in the literature, this measure reveals these accuracy gains to be severely limited.