Management Quality and Investment Efficiency

Management Quality and Investment Efficiency Prior evidence that the quality and reputation of a firm’s management team affects capital investment leaves unaddressed whether it reduces over- or under-investment. This study provides evidence of both in documenting a negative association between the quality and reputation of a firm’s management and over- and/or under-investment. Firms with better and more reputable managers will have more access to the capital market, so that they will have lower cost of raising funds for new investments, which facilitates investment in positive NPV projects, thereby reducing under-investment. Also, firms with higher management quality and reputation are likely to select better net present value (NPV) projects and implement them more ably, and thus lower managerial selection of ex ante negative NPV projects, resulting in a reduction of over-investment. The data used in this study comes from two databases. First, I collect my sample from the Compustat annual industrial. Second, the data on management quality are collected from the OSIRIS. Following previous research (e.g., Richardson, 2006; Biddle et al., 2009), I measure over- or under- investment by the deviations from expected investment using an investment model. In addition, I use a measure of management quality and reputation constructed in Chemmanur and Paeglis (2005) and Chemmanur and Paeglis (2009) along three dimensions: management team resources, management team structure, and management reputation outside of the business community. This paper is the first to examine the relationship between the quality and reputation of a firm’s management and investment efficiency. Thus, my study contributes to a growing body of literature that studies relations between financial reporting quality and investment (e.g., Biddle and Hilary, 2006; Hope and Thomas, 2008; McNichols and Stubben, 2008; Biddle et al., 2009).

Project ID:PF9907-7030
External Project ID:NSC99-2410-H182-013