Unless project gains can be very clearly proven to analysts, or perhaps so small and numerous to allow averaging over them, public firms are basically incapable of taking a loss on earnings this quarter in order to make gains several years later. … CEOs are strongly tempted to instead please analysts by grabbing higher short-term quarterly earnings. …
Yes, they "look" too short-sighted, but looks can be deceiving. Human intuition is frequently too confident about uncertain matters, of which long-term investments are a classic example. Private firms are run more at the whim of individuals, so perhaps they display this risk-seeking bias more, whereas public firms are appropriately conservative. Or perhaps not. The point is, you can't just assume where the failure lies. What is the fact of the matter?
Metrics that might shed light:1. Overall return on capital in public vs private firms (this favours public firms)2. Survivorship rate in public vs private firms (this favours public firms)3. Cross-national comparison of growth rates and return on capital compared with % of the economy in public firms (I don't know what this would look like)
If you aren't spending your own money, you can easily build your empire via lots of bad investments. It takes a lot of work to identify the good ones.
Because the requirements of public firms look far too short-sighted. Not pursuing an investment that has a payback time of 2 years suggests a discount rate that is way too high.
This finding is surprising to me.
There is lots of research showing that firms w/ ample liquidity invest way too much in R&D and CAPEX. For example:
Also, the general driver of so many cross-sectional return anomalies is that CEO's are overly aggressive- acquisitions, equity issuance, debt issuance, asset growth, capex are all associated with abnormally poor subsequent long-term returns.
And why wouldn't a simple quant strategy of investing in firms w/ high/increasing relative R&D/CAPEX eliminate this?
I appreciate this sort of balance to your usual perspective Robin. Thanks.
I think the main issue is that speculative markets work well in the short term (say 6 months), but not in the longer term. At the margin, stocks are purchased based on whether the buyer thinks they will go up in the next few months, not the next few years.
Why do you assume the failure is in the public firms? It could be that the private firms are too sensitive to changes in investment opportunities - liquidity constraints, perhaps.
Bad link at the first "more."