DO EARNINGS BENCHMARKS INTENSIFY THE EFFECT OF FINANCIAL REVENUES AND NET FINANCIAL PAYOUTS ON INVESTMENT EFFICIENCY?

Abstract

We studied the interacting effect of financial revenues, net financial payouts and earnings benchmarks on investment efficiency. We deployed twenty years of panel data of US non-financial corporations from 1999 to 2018 to investigate the objectives. We estimated the results through the cumulant estimator and found that financial revenues harm the investment efficiency and increase the underinvestment. In contrast, net financial payouts improve the investment efficiency while reducing the underinvestment. In addition, earnings benchmarks intensify the negative effect of financial revenues on investment efficiency. However, earnings benchmarks moderate the relationship between financial revenues and investment efficiency during uncertainty. Earnings benchmarks also increase the positive effect of financial revenues on underinvestment, and this relationship is further strengthened during uncertainty. The interacting role of earnings benchmarks weakens the effect of financial revenues on investment efficiency and underinvestment when financial constraints are reduced. On the other side, earnings benchmarks strongly moderate the effect of net financial payouts on investment efficiency and underinvestment. These results are consistent during high and low uncertainty and financial constraints. Results are robust when the reverse causality issue is resolved. Results suggest that higher earnings benchmarks coupled with higher financial revenues and net financial payouts are harmful for long-term investment efficiency.