Under the Competitive Dynamics of the Firm: Which Value Creation Indicator is the Most Relevant?
University of Quebec at Rimouski - Department of Management Sciences
December 17, 2012
Journal of Academy of Business and Economics, Volume 13, Number 1, 2013, pp. 35-50
This paper shows the relevant value creation indicator in a competitive economic equilibrium framework. We analyze the relationship between the cost of capital and the competitive dynamics of the firm. Several related propositions on the most relevant value creation indicator under dynamic competitive advantages are developed to establish the theoretical framework of the research hypotheses. A sample of 80 U.S. firms and cross section data are used in the empirical analysis. Firstly, we compare the costs of capital estimated from the CAPM with those from the Discounted Residual Income Model (DRIM). Using the competitive advantage period "T" as the forecast period in the DRIM, we considered it as an ex ante model that takes into account the competitive dynamics of the firm. Secondly, we tested the explanatory power of the marginal return to cost of capital ratio from the DRIM compared to that of the CAPM. Finally, we tested the explanatory power of the marginal return to cost of capital ratio compared to the marginal performance spread (the difference between the marginal return on capital and the cost of capital). The results of difference tests, Cox tests, and J tests of Davidson and MacKinnon (1981) show that the marginal return to cost of capital ratio from the DRIM is the most valuable test of value creation.
Keywords: Corporate finance, Value creation, Indicators, EVA, DRIM
JEL Classification: G30, G12, C52, D51, D81
Date posted: May 17, 2013