Firm profitability: Mean-reverting or random-walk behavior?

Giorgio Canarella, Stephen Miller and Mahmoud M. Nourayi

Journal of Economics and Business, 2013, vol. 66, issue C, 76-97

Abstract: We analyze the stochastic properties of three measures of profitability, return on assets (ROA), return on equity (ROE), and return on investment (ROI), using a balanced panel of US firms during the period 2001–2010. We employ a panel unit-root approach, which assists in identifying competitive outcomes versus situations that require regulatory intervention to achieve more competitive outcomes. Based upon conventional panel unit-root tests, we find substantial evidence supporting mean-reversion, which, in turn, lends support to the long-standing “competitive environment” hypothesis originally set forward by Mueller (1977). These results, however, prove contaminated by the assumption of cross-section independence. After controlling for cross-section dependence, we find that profitability evolves as a non-stationary process in some sectors in the US economy. Our findings, especially taken as a whole, remain fairly robust to various assumptions regarding the underlying data generation process.

Keywords: Cross-section dependence; Unit roots; Panel data; Hysteresis; Firm profitability (search for similar items in EconPapers)
JEL-codes: C23 D22 L25 (search for similar items in EconPapers)
Date: 2013
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

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Related works:
Working Paper: Firm Profitability: Mean-Reverting or Random-Walk Behavior? (2012)
Working Paper: Firm Profitability: Mean-Reverting or Random-Walk Behavior? (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jebusi:v:66:y:2013:i:c:p:76-97

DOI: 10.1016/j.jeconbus.2012.11.002

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