Does external uncertainty matter in corporate sustainability performance?

Motivated by the prevalence of corporate sustainability and the rise of uncertainty at the national level, we investigate the impact of three sources of uncertainty; namely, economic policy, climate change, and political instability, on firms' sustainability performance. Using a sample of 6804 firms from 72 countries spanning 15 years, our study revealed that uncertainty due to climate change, economic policy, and political instability negatively affects firms' sustainability performance. This finding is in line with the real options theory that uncertainty in an external environment discourages firms' long-term investment (e.g. investment in corporate sustainability). In addition, the results show that the option for delay in sustainability investment moderated the relation between uncertainty at the national level and firms' sustainability performance. Firms with better sustainability performance had higher firm value when facing uncertainty. Interestingly, firms with higher profitability performed better in sustainability when facing uncertainty at the national level.     

Real Options, (Dis)Investment Decision-Making and Accounting Measures of Performance

This paper suggests that a residual income-type measure of performance can be designed which supports optimal investment and disinvestment decision-making in a real options framework involving the options to wait before investing and to abandon. The measure has a number of advantages and disadvantages. Nonetheless, the balance of advantage versus disadvantage for the proposed measure must be set against the inadequacies of other competing measures of performance and associated organisational designs. Even if the measure of performance suggested is not regarded as practically useful, it has another general advantage – it can be used as a benchmark against which to evaluate other performance measures with regard to their support of optimal investment and disinvestment decision-making in a real options framework.     

The Real Options Component and Market Value of Taiwan Technological Companies

Real options valuation has been applied in real investment extensively. However the empirical researches of real options components’ value are seldom studied. This study uses the panel data model to test whether the stock prices of Taiwan listed companies reflect investor’s expectations regarding the value of real options. This article demonstrates that investors cannot ignore the real options components when evaluating stock market value. The results also confirm that the proportion of a firm’s market value not due to assets-in-place is significantly and positively related to the variables of stock beta, skewness of stock returns, size, capital stock, and research and development. In addition, firms with lower firm life cycle have a higher real options value.     

Real Options, (Dis)Investment Decision-Making and Accounting Measures of Performance

This paper suggests that a residual income-type measure of performance can be designed which supports optimal investment and disinvestment decision-making in a real options framework involving the options to wait before investing and to abandon. The measure has a number of advantages and disadvantages. Nonetheless, the balance of advantage versus disadvantage for the proposed measure must be set against the inadequacies of other competing measures of performance and associated organisational designs. Even if the measure of performance suggested is not regarded as practically useful, it has another general advantage – it can be used as a benchmark against which to evaluate other performance measures with regard to their support of optimal investment and disinvestment decision-making in a real options framework.     

Investment Irreversibility,Cash Flow Risk,and Value‐Growth Stock Return Effects

We simulate results from a simple real options model to provide insight into the value‐growth stock return anomaly. In our model, firms possess either single (“value” firm) or multiple (“growth” firm) investment opportunities. Our model predicts that growth firms: (1) invest sooner, (2) exhibit greater continuity in capital expenditure over time, (3) have lower book‐to‐market ratios, and (4) generate lower rates of return than value firms.     

Return predictability and the real option value of segments

Theory suggests that firm value should include the value of real options; that is, firms have the option to expand more profitable businesses and liquidate less profitable businesses. In a diversified firm, each segment has its own real options. Applying real options theory to a diversified firm at the firm level neglects the value of segment-level options. If investors overlook segment-level options, mispricing will occur. Using data from 1981 to 2013, we find that a hedge portfolio buying diversified firms in the highest decile of the estimated real option value of segments (RVS) and selling those in the lowest RVS decile earns a significant 0.79% size-adjusted monthly return. The hedge returns are more significant for firms whose growth opportunities mainly lie in the more profitable segments. We also find that the predictive power of RVS is stronger for firms with high growth, lower analyst coverage, and stronger corporate governance. Further investigation links improved operating performance to the exercise of segment-level real options.     

Equity value,implied cost of equity and shareholders’ real options

This study investigates the effects of shareholders’ real options on (i) firm financial performance and (ii) estimations of the implied cost of equity. After measuring the equity value of steady‐state operations using the residual income model, and the abandonment and expansion options using the Black‐Scholes option pricing model, I find that firms with a large expansion (abandonment) option value experience better (worse) financial performance than those with a small such value. I also find that ignoring these options results in a downward bias in implied cost of equity estimates by an average of 1.23 percentage points.     

Real Investment Implications of Employee Stock Option Exercises

This paper examines a real cost of awarding employee stock options. Based on the observation that managers are extremely concerned about earnings-per-share dilution in equity related compensation, we predict and find that firms experiencing significant employee stock option (ESO) exercises shift resources away from real investments towards the repurchase of their own stocks. We further find weak evidence of a decline in subsequent firm performance (as measured by return on assets) for several years following the cut in discretionary investments as a result of stock option exercises, though this result is sensitive to the metric used to measure performance. Collectively, our findings indicate that ESO exercises potentially impose a real cost on the firm in terms of foregone investment opportunities.     

利率市场化、信贷资源配置与民营企业增长期权价值——基于贷款利率上、下限放开的准自然实验证据

利率市场化对于提高资金配置效率、推动经济高质量发展具有重要意义,来自企业的经验证据有助于理解利率市场化影响经济发展的微观路径。本文基于我国贷款利率上限与下限的放开,借助双重差分模型检验了利率市场化如何影响民营企业的信贷资源获取、投资灵活性与增长期权价值。研究表明:贷款利率市场化使得银行能够通过调节利率来匹配企业风险,相比于中等风险企业,高风险(低风险)企业在贷款利率上限(下限)放开后以更高(更低)的融资成本获得了更多信贷资源;信贷资源的增加为企业把握投资机会提供了资金支持,贷款利率上限(下限)放开后,高风险(低风险)企业的投资灵活性与增长期权价值显著提升。本文的研究发现有助于理解利率市场化促进经济增长的微观机制,为进一步健全市场化利率体系、推进经济高质量发展提供参考。     

Empirical Evidence of Risk Shifting in Financially Distressed Firms

This paper provides evidence of risk‐shifting behavior in the investment decisions of financially distressed firms. Using a real options framework, I show that shareholders' risk‐shifting incentives can reverse the expected negative relation between volatility and investment. I test two hypotheses that are consistent with risk‐shifting behavior: (i) volatility has a positive effect on distressed firms' investment; (ii) investments of distressed firms generate less value during times of high uncertainty. Empirical evidence using 40 years of data supports both hypotheses. I further evaluate the effect of various firm characteristics on risk shifting, and estimate the costs of the investment distortion.     

Option Exercise Games: An Application to the Equilibrium Investment Strategies of Firms

Under the standard real options approach to investment underuncertainty, agents formulate optimal exercise strategies inisolation and ignore competitive interactions. However, in manyreal-world asset markets, exercise strategies cannot be determinedseparately, but must be formed as part of a strategic equilibrium.This article provides a tractable approach for deriving equilibriuminvestment strategies in a continuous-time Cournot–Nashframework. The impact of competition on exercise strategiesis dramatic. For example, while standard real options modelsemphasize that a valuable "option to wait" leads firms to investonly at large positive net present values, the impact of competitiondrastically erodes the value of the option to wait and leadsto investment at very near the zero net present value threshold.     

Access to private equity and real firm activity: Evidence from PIPEs

We study how access to private equity financing affects real firm activities using a broad panel of publicly traded U.S. firms that raise external equity through private placements (PIPEs) between 1995 and 2008. The public firms relying on PIPEs are generally small, high-tech firms that cannot finance investment internally and likely face severe external financing constraints; PIPEs are by far the most important source of finance for these firms. We show that firms use PIPE inflows to maintain extremely high R&D investment ratios and to build substantial cash reserves. We also use GMM techniques that control for firm-specific effects and the endogeneity of the decision to raise private equity and find that PIPE funding has a substantial impact on corporate investment in cash reserves and R&D, and a smaller but significant impact on investment in non-cash working capital, but little impact on fixed investment or acquisitions. Our estimates indicate that R&D investment initially increases by $0.20–$0.25 for each dollar of private equity flowing into the firm, and that PIPE funds initially invested in cash ultimately go to R&D. These findings offer direct evidence that access to private equity finance has an important effect on the key input that drives innovation at the firm- and economy-wide levels.     

The impacts of share pledging on firm investment timing and valuation

This paper applies a model in the real options framework to analyze the impacts of controlling shareholder’s share pledging on corporate investment timing and valuation. We find that the optimal investment timing shows an inverted U-shape with the pledge ratio, indicating that share pledging exacerbates firms’ over-investment and worsens firms’ under-investment. Furthermore, share pledging hurts firms’ option value unless active measures are taken to control the pledging risks. The maintenance requirement can keep controlling shareholder from irrational early investments and protect investors from severe wealth losses. In addition, our work can provide testable empirical implications.     

Real (adaptation) options and the valuation of equity: some empirical evidence

Data from 1,374 firms across four broad industrial groupings are used to assess the contribution that real (adaptation) options make to overall equity values. The analysis indicates that real (adaptation) options make a significant contribution to the equity value of firms with a market to book ratio (of equity) of around unity or less. As the market to book ratio grows beyond this level, however, the contribution made by real (adaptation) options decays quickly away and equity values are mainly comprised of the present value of the dividends that firms are expected to pay. This means that for around one in every five of the firms in our sample real (adaptation) options make a significant contribution to overall equity value. Thus, while linear equity valuation models would seem to be appropriate for the substantial majority of firms on which our sample is based, there is a sizeable minority of firms where real (adaptation) options have a significant impact on equity values. For this latter group of firms there will be a non-linear relationship between equity value and its determining variables. This has important implications for the regression procedures that are applied in this area of accounting research.     

Do Managers Use Meeting Analyst Forecasts to Signal Private Information? Evidence from Patent Citations

This study examines whether firms manage earnings to meet analyst forecasts to signal superior future performance. Prior research finds that firms use earnings management to just meet analyst forecasts and that these firms have a positive association with future performance (Bartov et al., 2002). There are two potential explanations for the positive association – signaling and attaining benefits that allow for better future performance (i.e., the real benefits explanation). Prior studies cannot provide evidence of signaling because they do not control for the real benefits explanation. Our research design enables us to control for the real benefits explanation because we can identify potential signaling firms within the sample of firms that just meet analyst forecasts. We use a unique database from the National Bureau of Economic Research to construct a proxy for the manager's belief about future firm value due to patents. We find that firms with more patent citations are more likely to just meet the analyst forecast and manage earnings to achieve this goal. We also find firms that just meet analyst forecasts with more patent citations have significantly better performance than firms with fewer patent citations, which is consistent with signaling and not the real benefits explanation.     

Earnings Momentum,Adaptation Value,and Nonlinearities in the Valuation of Chinese Equity Stocks

We demonstrate that when the variables comprising a firm's investment opportunity set depend on their past values then the present value of the cash flows the firm expects to earn will be stated in terms of the levels and the momentum of the affected variables. It is also shown that the market value of a firm's equity is comprised of the present value of the cash flows it expects to earn from operating under its existing investment opportunity set plus the value of the real options the firm possesses to modify or even completely change its existing investment opportunity set. Our empirical analysis, based on both Chinese and US data, shows that earnings momentum and the adaptation and growth options typically available to firms all appear to have a significant impact on equity prices.     

REAL OPTIONS: STATE OF THE PRACTICE

In the mid‐1980s, financial economists began building option‐based models to value corporate investments in real assets, laying the foundation for an extensive academic literature in this area. The 1990s saw several books, numerous conferences, and many articles aimed at corporate practitioners, who began to experiment with these techniques. Now, as we approach the end of 2001, the real options approach to valuing real investments has established a solid, albeit limited, foothold in the corporate world. Based on their recent interviews with 39 individuals from 34 companies in seven different industries, the authors of this article attempt to answer the question, “How is real options being practiced, and what impact is it having in the corporate setting?” The article identifies three main corporate uses of real options—as a strategic way of thinking, an analytical valuation tool, and an organization‐wide process for evaluating, monitoring, and managing capital investments. For example, in some companies, real options is used as an input into an M&A process in which rigorous numerical analysis plays only a small role. In such cases, real options contributes as a qualitative way of thinking, with little formality either in terms of analytical rigor or organizational procedure. In other firms, real options is used in a commodity trading environment where options are clearly specified in contracts and simply need to be valued. In this case, real options functions as an analytical tool, though generally only in specialized areas of the firm and not on an organization‐wide basis. In still other companies, real options is used in a technology or R&D context where the firm's success is driven by identifying and managing potential sources of flexibility. In such cases, real options functions as an organization‐wide process with both a broad conceptual and analytical core. The companies that have shown the greatest interest in real options generally operate in industries where large investments with uncertain returns are commonplace, such as oil and gas, and life sciences. Major applications include the evaluation of exploration and production investments in oil and gas firms, generation plant investments in power firms, R&D portfolios in pharmaceutical and biotech firms, and technology investment portfolios in high‐tech firms. While the approaches to implementation are quite varied, there appears to be a common path to the successful adoption of real options. The key steps of the adoption process are: (1) conducting pilot projects; (2) getting buy‐in from senior‐level and rank‐and‐file managers; (3) codifying real options through expert working groups, specialist training, and customization; and (4) institutionalizing and integrating real options firm‐wide. After citing best practices for each of these four steps, the authors close by predicting that a “network” effect and acceptance by Wall Street will serve as catalysts for more widespread corporate use of real options.     

THE EFFECTS OF SPIN-OFFS ON CORPORATE INVESTMENT AND PERFORMANCE

We examine characteristics of firms involved in spin-offs and test whether these spin-offs induce changes in investment incentives and economic performance. We find that firms engaging in spin-offs are larger, more highly leveraged, and have higher asset turnover and lower real asset growth than their industry rivals. We also find that spin-offs generate significant increases in real asset growth and cash flow margin on sales for combined firm measures (spun-off firm plus parent firm). The gains result from increases in real asset growth for parent and spun-off firms, and improvements in cash flow margin on sales for parents. Our evidence is consistent with models in which spin-offs create value by improving investment incentives and economic performance.     

Big is brilliant: Understanding the Chinese size effect through profitability shocks

Taking a dynamic view, this paper assesses the extent to which profitability shocks affect the size premium in the Chinese market. In the short run, there is a significant U-shaped relationship between size and profitability shocks; i.e., both small and large firms experience large and (in most cases) positive profitability shocks, while firms with medium market capitalizations display small profitability shocks. In the long run, profitability shocks in large firms remain large and stable, while profitability shocks in small firms decrease sharply. Adjusting for profitability shocks increases the returns of small firms but decreases the returns of large firms, indicating that large and positive profitability shocks in small firms cannot bring investors sizable returns even though the correlation between profitability shocks and returns is positive. Mismatches between profitability shocks and the per-unit return impact of such shocks (e.g., when firms experience positive shocks but the market reacts to these shocks irrationally) can help explain this phenomenon. Our work reveals that in terms of fundamentals, large firms are very worthy of investment owing to their superb fundamental performance, i.e., large and persistent profitability shocks.     

Investment,idiosyncratic risk,and growth options

We provide evidence that growth options play an important role in determining the negative relation between corporate investment and idiosyncratic risk in the absence of agency problem. A simple real options model predicts that the negative relation between corporate investment and idiosyncratic risk is a U-shaped function of the level of idiosyncratic risk: investment responds the most when idiosyncratic risk is at the intermediate level. And the negative relation is stronger when firms possess more growth options. Our results are robust when we control for the effect of managerial risk aversion, supporting the view that firms’ optimal response to uncertainty is an important driving force behind the negative investment–idiosyncratic risk relation.