Skip to main content
SpringerLink
Log in

The Determinants of Investor Valuation of R&D Expenditure in the Software Industry

  • Published:
Review of Quantitative Finance and Accounting Aims and scope Submit manuscript

Abstract

This paper examines the cross-sectional variability in the market valuation of R&D expenditures in the pre-packaged computer software industry. Consistent with some prior research, this paper argues that R&D spending is valued heterogeneously by the stock market, and derives hypotheses regarding the determinants of the cross-sectional heterogeneity in the market valuation of R&D. The empirical tests use an extensive database containing product level information of software firms between 1994 and 1998, along with accounting and stock price data of the same period. The test results, consistent with our hypotheses, show that R&D spending is more valuable for firms with larger market shares, higher percentage of technical employees, and those that have diversified into different product categories. The results also indicate that market valuation of R&D spending is a function of product life cycle.

This is a preview of subscription content, log in via an institution to check access.

Access this article

Log in via an institution

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Instant access to the full article PDF.

Institutional subscriptions

Similar content being viewed by others

References

  • Agarwal, R., “Survival of Firms Over the Product Life Cycle.” Southern Economic Journal 63, 571–584 (1997).

    Google Scholar 

  • Ali, A. and P. Zarowin, “The Role of Earnings Levels in Annual Earnings-Returns Studies.” Journal of Accounting Research 30, 286–296 (1992).

    Google Scholar 

  • Amir, A. and B. Lev, “Value-Relevance of Non-Financial Information: The Wireless Communications Industry.” Journal of Accounting and Economics 22, 3–30 (1996).

    Google Scholar 

  • Barclay, M., D. Gode and S. P. Kothari, “The advantages of Using Earnings for Compensation: Matching Delivered Performance.” Working paper, University of Rochester, Rochester, NY, 2000.

    Google Scholar 

  • Berger, P. and E. Ofek, “Diversification's Effect on Firm Value.” Journal of Financial Economics 37, 39–65 (1995).

    Google Scholar 

  • Berger, P., E. Ofek and I. Swary, “Investor Valuation of the Abandonment Option.” Journal of Financial Economics 42, 257–287 (1996).

    Google Scholar 

  • Black, E., “Life-Cycle Impacts on the Incremental Value-Relevance of Earnings and Cash Flow Measures.” Journal of Financial Statement Analysis 4, 40–56 (1998).

    Google Scholar 

  • Bodnar, G., C. Tang and J. Weintrop, “Both Sides of Corporate Diversification: The Value Impacts of Geographic and Industrial Diversification.” NBER Working Paper No. 6224, (1998).

  • Cardinal, L. and T. Opler, “Corporate Diversification and Innovative Efficiency: An Empirical Study.” Journal of Accounting and Economics 19, 365–381 (1995).

    Google Scholar 

  • Chan, S., J. Martin and J. Kensinger, “Corporate Research and Development Expenditures and Share Value.” Journal of Financial Economics 26, 255–276 (1990).

    Google Scholar 

  • Christensen, C. The Innovator's Dilemma: When New Technologies Cause Great Firms to Fail. Boston: Harvard Business School Press, (1997).

    Google Scholar 

  • Collins, D., S. P. Kothari, J. Shaken and R. Sloan, “Lack of Timeliness Versus Noise as Explanations for Low Contemporaneous Return-Earnings Associateion.” Journal of Accounting and Economics 18, 289–324 (1994).

    Google Scholar 

  • Demers, E. and B. Lev, “A Rude Awakening: Internet Shakeout in 2000.” Review of Accounting Studies 6, 331–359 (2001).

    Google Scholar 

  • Easton, P and T. Harris, “Earnings As an Explanatory Variable for Returns.” Journal of Accounting Research 29, 19–36 (1991).

    Google Scholar 

  • Easton, P. and M. Zmijewski, “Cross-Sectional Variation in the Stock Market Response to the Announcement of Accounting Earnings.” Journal of Accounting and Economics 11, 117–141 (1989).

    Google Scholar 

  • Entwistle, G., “Exploring the R&D Disclosure Environment.” Accounting Horizons 13, 323–341 (1999).

    Google Scholar 

  • Financial Accounting Standards Board. Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed. Statement of Financial Accounting Standards No. 86. Stamford, CT: FASB, 1985.

    Google Scholar 

  • Fox, T. and R. Ramsower, “Why FASB 86 Needs Revision: When Can Technological Feasibility be Established?” Journal of Accountancy (June): 93–98 (1989).

  • Francis, J. and K. Schipper, “Have Financial Statements Lost Their Relevance?” Journal of Accounting Research 37, 319–352 (1999).

    Google Scholar 

  • Greenstein, S. and J. Wade, “The Product Life Cycle in the Commercial Mainframe Computer Market, 1968–1982.” Rand Journal of Economics 29, 772–789 (1998).

    Google Scholar 

  • Gujarati, D. N. Basic Econometrics. New York: McGraw Hill, 1995.

    Google Scholar 

  • Hayn, C., “The Information Content of Losses.” Journal of Accounting and Economics 20, 125–153 (1995).

    Google Scholar 

  • Holthausen, R., D. Larcker and R. Sloan, “Business Unit Innovation and the Structure of Executive Compensation.” Journal of Accounting and Economics 19, 279–313 (1995).

    Google Scholar 

  • Hoskisson, R. E., M. A. Hitt and C.W. Hill, “Managerial Incentives and Investment in R&D in Large Multiproduct Firms.” Organization Science 4, 325–341 (1993).

    Google Scholar 

  • Joos, P., “Explaining Cross-Sectional Differences in Market-to-Book Ratios in the Pharmaceutical Industry.” Working Paper, University of Rochester, 2002.

  • Kleinbaum, D., L. Kupper, K. Muller and Z Nizam, Applied Regression Analysis and Other Multivariable Methods. Duxbury Press, 1998.

  • Lev, B. and P. Zarowin, “The Boundaries of Financial Reporting and How to Extend Them.” Journal of Accounting Research 37, 353–386 (1999).

    Google Scholar 

  • Liebowitz, S. and S. Margolis, “Causes and Consequences of Market Leadership in Application Software.” A paper presented at the conference: Competition and Innovation in the Personal Computer Industry, April 24, 1999.

  • Rink, D. and J. Swan, “Product Life Cycle Research: A Literature Review.” Journal of Business Research 219–247 (1979).

  • Shortridge, R., “Measuring R&D Success: A Study of New Drug Approvals in the Pharmaceutical Industry.” Working paper, Ball State University, 2001.

  • Teece, D. J., “Economies of Scope and the Scope of the Enterprise.” Journal of Economic Behavior and Organization 1, 223–247 (1980).

    Google Scholar 

  • Trueman, B. M., H. F. Wong and X. Zhang, “The Eyeballs Have it: Searching for the Value in Internet Stocks.” Journal of Accounting Research 38, 137–162 (2000).

    Google Scholar 

  • Watts, R. L. and J. L. Zimmerman, Positive Accounting Theory. Prentice, 1986.

Download references

Author information

Authors and Affiliations

  1. School of Business, North Carolina Central University, P.O. Box 19716, Durham, NC, 27707, USA

    C. Catherine Chiang (Assistant Professor of Accounting) & Yaw M. Mensah (Professor of Accounting)

Authors
  1. C. Catherine Chiang
    View author publications

    You can also search for this author in PubMed Google Scholar

  2. Yaw M. Mensah
    View author publications

    You can also search for this author in PubMed Google Scholar

Rights and permissions

Reprints and permissions

About this article

Cite this article

Chiang, C.C., Mensah, Y.M. The Determinants of Investor Valuation of R&D Expenditure in the Software Industry. Review of Quantitative Finance and Accounting 22, 293–313 (2004). https://doi.org/10.1023/B:REQU.0000032600.07130.fc

Download citation

  • Issue Date:

  • DOI: https://doi.org/10.1023/B:REQU.0000032600.07130.fc

Search

Navigation