Corporate Overinvestment Research Articles

Executive Equity Incentives, Overconfidence and Corporate Inefficient Investment

In the past research on equity incentives, the influence of incentive system on individual psychological factors was often neglected. From the perspective of behavioral company finance, this paper takes executives from 2010 to 2016 China A-share listed companies as research samples to research framework for overconfidence, executive equity incentives, and corporate inefficient in-vestment. The results of the study show that equity incentives can alleviate the underinvestment behavior of executives by influencing executives’ over-confidence, and executive overconfidence is partly a sub-mediating effect. However, for over-invested enterprises, the indirect effect of executive over-confidence generated by equity incentives on corporate over-investment is a deterioration, and the direct effect of equity incentives is opposite to the indirect effect. So executives’ overconfidence in equity incentives, in the ex-cessive investment of enterprises, plays a special mediating effect—the cover effect.

Does quasi-mandatory dividend rule restrain overinvestment?

We study the impact of a quasi-mandatory dividend rule on restraining corporate overinvestment in China. In 2008, the Chinese government adopted a regulation mandating that publicly listed firms pay out a minimum of 30% of their average earnings over the preceding 3 years as cash dividends before the firms can apply for SEOs. The 30% Rule in China is unique in the sense that it applies only to firms applying for SEOs. Our findings suggest that firms paying small dividends (but not meeting the 30% Rule) better restrain their overinvestment after the 30% Rule than the control firms. The 30% Rule, while meant to encourage firms to pay more dividends, pushes small-dividend firms to improve their investment efficiency by lowering the extent of overinvestment. For firms paying no dividends, we find that, after implementation of the 30% Rule, their overinvestment increases. Finally, we document that the impact of the 30% Rule on restraining overinvestment among small-dividend firms is attenuated if they have bad agency problems. Our findings offer policy implications for other emerging markets considering adopting mandatory dividend regulations.

The Effect of CEO Gender on Corporate Cash Holdings and Over-investment Problems - Evidence from Taiwan

This study empirically investigates how CEO gender affects corporate cash holdings and the over-investment of free cash flow among Taiwan listed firms. We utilize a sample of 179 listed firms with female CEOs and a sample of 2149 listed firms with male CEOs from 2012 to 2014. The empirical results show that female CEOs are associated with a higher level of corporate cash holdings. Compared with male CEOs, female CEOs are more concerned with the precautionary motive of cash, while they care less about the opportunity cost of cash. Moreover, we find that female CEOs moderate the over-investment problem of free cash flow, again indicating that they are relatively conservative than male CEOs.

The Institutional Investors’ Governance Role on Corporate Overinvestment: A Review Based on Endogeneity

The Institutional Investors’ Governance Role on Corporate Overinvestment: A Review Based on Endogeneity

The Research of Corporate Governance, Industrial Over-investment and Corporate Over-investment

The corporate governance of listed companies is the focus and hot spot of financial research in recent years. Using a sample of A-share listed firms in China for the period 2003-2015, the paper investigates corporate governance on the relationship between industrial over-investment and the over-investment. The results show that: (1) The information transparency restrains the positive relationship between industrial over-investment and the next period of over-investment. (2) Major shareholder increases the positive relationship between industrial over-investment and the over-investment.

Overinvestment, inflation uncertainty, and managerial overconfidence: Firm level analysis of Chinese corporations

We study corporate investment by considering both external economic factor and managerial behavior, in particular the dynamic interaction between inflation uncertainty and managerial overconfidence by employing a sample of Chinese companies. The empirical findings demonstrate that lower inflation uncertainty increases over-investment, and managerial overconfidence exacerbates such effect. Further analysis shows that over-investment in state-owned enterprises (SOEs) is mainly driven by managerial overconfidence, and the negative association between inflation uncertainty and overinvestment is due to managerial overconfidence. The effect of managerial overconfidence is mute in non-state-owned enterprises (non-SOEs). In addition, we find asymmetric impact of inflation uncertainty on corporate over-investment during different economic cycles.

Religious influence, blockholder ownership, and corporate over-investment: evidence from Chinese Buddhism

This study extends recent literature about religious influence on corporate decisions by investigating the impact of Buddhism, the most influential religion, on corporate over-investment. Using a sample of 12,820 firm-year observations from the Chinese stock market for the period of 2001–2012, we document that Buddhism is significantly negatively associated with over-investment, suggesting that Buddhism as a set of social norms can reduce owner-manager agency conflicts, alleviate managers’ opportunistic behaviour and overconfidence, and thus mitigate over-investment. Moreover, blockholder ownership attenuates the negative association between Buddhism and over-investment. The above results are robust to a variety of sensitivity tests and are still valid after controlling for the endogeneity between Buddhism and over-investment.

The Impact of Labor Unionization on Corporate Overinvestment and Underinvestment

We document that labor unionization rates are associated with lower levels of managerial overinvestment and underinvestment for a sample of 3,731 U.S. publicly traded firms over the period 1983-2013. This result is consistent with the explanation that labor unions can play a governance role in improving corporate investment efficiency. The unionization effects are generally stronger in bargaining environments that are favorable to unions. We also find that union monitoring associated with mitigating overinvestment improves future profitability but find no such pattern in instances of underinvestment.

Does media governance restrict corporate overinvestment behavior? Evidence from Chinese listed firms

Using China’s A-share listed firms from 2007 to 2011, this paper empirically tests how media governance affects firms’ levels of overinvestment and whether external supervision and informal institutional mechanisms reduce these levels. We find that media governance and overinvestment are significantly negatively related. When firms are located in a district with a stronger media governance environment their levels of overinvestment are lower, indicating that media governance significantly restricts overinvestment behavior. When internal corporate governance efficiency is low, the negative relationship between the media environment and overinvestment behavior is significantly enhanced, indicating that when internal governance or formal systems have reduced efficacy, an important complementary role is played by external supervision and the informal institutional environment. After considering endogeneity and different measures of overinvestment and other related variables, the conclusions remain unchanged.

A Look Back at the Beginnings of EVA and Value‐Based Management

One of the pioneers of value‐based management discusses his life's work in converting principles of modern finance theory into performance evaluation and incentive compensation plans that have been adopted by many of the world's largest and most successful companies, including Coca‐Cola in the U.S., SABMiller in London, Siemens in Germany, and the Godrej Group in India. The issues covered include the significance of dividend payouts (are dividends really necessary to support a company's stock price and, if so, why?) as well as the question of optimal capital structure (whether and why debt might not be cheaper than equity).But the most important focus of the interview is corporate performance measurement and the use of executive pay to strengthen management incentives to increase efficiency and value. According to Stern, the widespread tendency of public companies to manage “for earnings”—or in accordance with what he refers to as “the accounting model of the firm”—often leads to value‐destroying decisions. As one example, the GAAP accounting principle that requires intangible investments like R&D and training to be written off in the year the expenses are incurred is likely to cause underinvestment in such intangibles. At the same time, the failure of conventional income statements to reflect the cost of equity almost certainly encourages corporate overinvestment.Stern's solution to this problem is an executive incentive compensation plan in which rewards are tied to increases in a measure of economic profit called economic value added, or EVA, which research has shown to have a significance relation to changes both in share value and the premium of market value over book value. Moreover, by combining such a plan with a “bonus bank” that pays out annual awards over a multi‐year period, boards can ensure that management will be rewarded not for good luck but rather for sustainable improvements in performance.

The relation between external governance environment and over-investment: Evidence from industry regulation

Based on the Law and Finance theory, and the regulatory capture theory, external governance environment and industrial regulations can exert a certain influence on corporate overinvestment. On the basis of qualitative analysis of the relationship between external governance environment and corporate over-investment under different industrial regulation conditions, this paper, using data of non-financial companies listed in Shanghai and Shenzhen Stock Exchanges in the period 2001-2010, describes the regional distribution characteristics of over-investment of Chinese listed companies, and establishes an OLS regression model of the relationship between external governance environment and over-investment. The study respectively groups data from regulated and non-regulated industries as a sample and empirically tests the OLS regression model. Results show that: from the perspective of economic geography, there exists a local spatial cluster phenomenon in the distribution of over-investment of listed companies in regulated industries, while non-regulated industries conform to no regularity. In regulated industries, external governance environment factors (level of government intervention, rule of law and financial development) may exert a significant negative influence on the degree of over-investment of listed companies, but on non-regulated industries, their effect is reversed. Also, government intervention, legal enforcement and financial development are positively correlated to over-investment. Further research indicates that, compared with government intervention and financial development, legal enforcement influences over-investment the most.

Political connections and corporate overinvestment: evidence from China

Purpose – Using panel data for the period 2004-2010, this study shows that political connections have a significant positive effect on corporate overinvestment in China while their interaction with related-party transactions has a negative effect. Results also indicate that state-owned enterprises (SOEs) controlled by the Chinese central government tend to have greater overinvestment than non-SOEs. However, their interaction with related-party transactions has an opposite effect on overinvestment, lending support to the conjecture that firm ownership structure plays a significant role in corporate overinvestment decisions. The paper aims to discuss these issues. Design/methodology/approach – Panel data analysis and regression. Findings – This study shows that political connections have a significant positive effect on corporate overinvestment in China while their interaction with related-party transactions has a negative effect. Results also indicate that SOEs controlled by the Chinese central government tend to have greater overinvestment than non-SOEs. Research limitations/implications – The research shows some Chinese firms' behavior that indicates expropriation of minority stockholders. Policymakers should be aware of this issue as overinvestment is not good for the economy as a while. The limitation of the study is based on six-year data. Practical implications – Stockholders should monitor the firms to mitigate the overinvestment problems in Chinese firms. Originality/value – This is the first paper to examine the overinvestment issue along with related-party transactions and political connections.

Research on Excessive Investment with DEA Analysis for Chinese Listed Companies

This paper measured level of corporate over-investment with DEA method. In this paper, the empirical research tested the excessive levels of investment in listed companies. Studies have been shown by investment-cash flow sensitivity and growth function in metrics when excessive levels of investment in listed companies in China. Tobin Q values are not objective enough in China's capital market, while DEA method can be more scientific measure of Chinese listed companies for the level of over-investment.

Corporate Diversification and Overinvestment: Evidence from Asset Write-Offs

This paper documents that diversified firms are more likely to overinvest than undiversified firms. Prior research on inefficient investment in diversified firms has been criticized on the measurement errors in measuring the unobservable marginal investment opportunities. Using an ex post measure of overinvestment that does not rely on investment opportunity set-asset write-offs, we find that diversified firms are more likely to incur tangible write-offs as well as goodwill write-offs and that the extent of the write-offs increases as firms become more diversified. In addition, we show that the diversification discount is related to subsequent asset write-offs, suggesting that diversified firms trade at a discount because investors expect overinvestment and correctly anticipate future write-offs.

Overinvestment and Corporate Fraud in Efficient Capital Markets

Overinvestment in certain firms or sectors induced by corporate fraud, where informed insiders strategically manipulate outside investors' beliefs by exaggerating financial performance and economic prospects, has been endemic historically, and has recently attracted much attention. Building on the coordination problem faced by dispersed and changing owners of widely-held firms, we present a theory that reconciles corporate fraud and overinvestment in efficient capital markets. Shareholders attempt to design managerial compensation contracts to both elicit valuable information from insiders and to ameliorate their investment coordination problem. However, for a wide range of conditions, the optimal contract induces overstatements by managers, i.e., exaggerated disclosures regarding future investment opportunities, and subsequent overinvestment by rational investors. Our framework helps explain why instances of corporate fraud and overinvestment tend to follow the introduction of new technologies, concentrate in industries with valuable growth options, and intensify when firms have better access to external capital markets. We also link managerial career concerns to the likelihood of overinvestment, compare information precision in internal versus external capital markets, and provide a new perspective on the design of corporate charters.

Corporate groups, liquidity, and overinvestment by Belgian firms quoted on the Brussels stock exchange

Corporate groups, liquidity, and overinvestment by Belgian firms quoted on the Brussels stock exchange

EVA AND TOTAL QUALITY MANAGEMENT

Both TQM and EVA can be viewed as organizational innovations designed to reduce “agency costs”—that is, reductions in firm value that stem from conflicts of interest between various corporate constituencies. This article views TQM programs as corporate investments designed to increase value by reducing potential conflicts among non‐investor stakeholders such as managers, employees, customers, and suppliers. EVA, by contrast, focuses on reducing conflicts between managers and shareholders by aligning the incentives of the two groups. Besides encouraging managers to make the most efficient possible use of investor capital, EVA reinforces the goal of shareholder value maximization in two other ways: (1) by eliminating the incentive for corporate overinvestment provided by more conventional accounting measures such as EPS and earnings growth; and (2) by reducing the incentive for corporate underinvestment provided by ROE and other rate‐of‐return measures.At a superficial level, EVA and TQM seem to be in direct conflict with each other. Because of its focus on multiple, non‐investor stakeholders, TQM does not address the issue of how to make value‐maximizing trade‐offs among different stakeholder groups. It fails to provide answers to questions such as: What is the value to shareholders of the increase in employees' human capital created by corporate investments in quality‐training programs? And, given that a higherquality product generally costs more to produce, what is the value‐maximizing quality‐cost combination for the company? The failure of TQM to address such questions may be one of the main reasons why the adoption of TQM does not necessarily lead to improvements in EVA.Because a financial management tool like EVA has the ability to guide managers in making trade‐offs among different corporate stakeholders, it can be used to complement and reinforce a TQM program. By subjecting TQM to the discipline of EVA, management is in a better position to ensure that its investment in TQM is translating into increased shareholder value. At the same time, a TQM program tempered by EVA can help managers ensure that they are not under investing in their non‐shareholder stakeholders.