Skin in the Game: Operating Growth, Firm Performance, and Future Stock Returns

Forthcoming, Journal of Financial and Quantitative Analysis

47 Pages Posted: 16 Feb 2021 Last revised: 12 Sep 2021

See all articles by Sean Cao

Sean Cao

Georgia State University - J. Mack Robinson College of Business

Zhe Wang

University of North Carolina (UNC) at Chapel Hill - Kenan-Flagler Business School

P. Eric Yeung

Cornell University - Samuel Curtis Johnson Graduate School of Management

Date Written: February 15, 2021

Abstract

Prior research documents that asset growth is negatively associated with future firm performance. In contrast, we show that growth financed by product market stakeholders (i.e., “operating growth”) is positively associated with future firm performance. Investors and security analysts under-estimate the positive effects of operating growth on future performance, resulting in return predictability and overly pessimistic earnings forecasts for firms with high operating growth. Future stock returns largely concentrate around subsequent earnings announcements with declining magnitudes, consistent with the error-in-expectation explanation. Results from cross-sectional tests further support the hypothesis that operating growth signals high future performance but investors underreact to it.

JEL Classification: G12; G14; G15

Suggested Citation

Cao, Sean S. and Wang, Zhe and Yeung, P. Eric, Skin in the Game: Operating Growth, Firm Performance, and Future Stock Returns (February 15, 2021). Forthcoming, Journal of Financial and Quantitative Analysis, Available at SSRN: https://ssrn.com/abstract=3786169 or http://dx.doi.org/10.2139/ssrn.3786169

Sean S. Cao (Contact Author)

Georgia State University - J. Mack Robinson College of Business ( email )

P.O. Box 4050
Atlanta, GA 30303-3083
United States

Zhe Wang

University of North Carolina (UNC) at Chapel Hill - Kenan-Flagler Business School ( email )

McColl Building
Chapel Hill, NC 27599-3490
United States

P. Eric Yeung

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States

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