Slack and Crash Risk

Journal of Applied Business Research

33 Pages Posted: 29 Jun 2020 Last revised: 16 Jul 2020

See all articles by Theodore H. Goodman

Theodore H. Goodman

Purdue University - Department of Accounting

Volkan Muslu

C.T. Bauer College of Business University of Houston

Hyungshin Park

Santa Clara University

Date Written: January 1, 2020

Abstract

We examine how a firm’s operational slack is associated with current income and future stock price crash risk. By doing so, we test the validity of a firm’s alternative motivations for holding operational slack. We show that Supply Chain Slack, which is based on excess working capital, is associated with higher current profits and higher future crash risk. This evidence is consistent with the firm hoarding bad news. In contrast, SG&A Slack, which is based on excess selling, general, and administrative expenses, is associated with lower current income and lower future crash risk. This evidence is consistent with the firm insuring against rare and adverse events. Furthermore, a firm’s stock price crash risk is lower when a slack type is more costly, consistent with both motivations. Overall, our findings suggest a stronger profit-crash risk tradeoff when firms hold more operational slack.

Keywords: Crash risk, slack, return on equity

JEL Classification: G31, G32

Suggested Citation

Goodman, Theodore H. and Muslu, Volkan and Park, Hyungshin, Slack and Crash Risk (January 1, 2020). Journal of Applied Business Research, Available at SSRN: https://ssrn.com/abstract=3619533 or http://dx.doi.org/10.2139/ssrn.3619533

Theodore H. Goodman

Purdue University - Department of Accounting ( email )

Krannert School of Management
West Lafayette, IN 47907-1310
United States

Volkan Muslu (Contact Author)

C.T. Bauer College of Business University of Houston ( email )

4750 Calhoun Road
Houston, TX 77204
United States
713 7434924 (Phone)

Hyungshin Park

Santa Clara University ( email )

500 El Camino Real
Santa Clara, CA 95053
United States

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