Managers’ Investment Decisions: Incentives and Economic Consequences Arising from Leases

Tim V. Eaton, Craig Nichols, James Wahlen and Matthew Wieland
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Tim V. Eaton: Farmer School of Business, Miami University, Oxford, OH 45056, USA
Craig Nichols: Whitman School of Management, Syracuse University, Syracuse, NY 13244, USA
James Wahlen: Kelley School of Business, Indiana University, Bloomington, IN 47405, USA
Matthew Wieland: Farmer School of Business, Miami University, Oxford, OH 45056, USA

JRFM, 2021, vol. 14, issue 4, 1-33

Abstract: What incentives do managers face that might give rise to inefficient investments in leases? If managers make inefficient investments in leases, what economic consequences arise for those managers and their firms? We develop a model of expected investments in leased assets and use the residuals from the model as proxies for inefficient investments. We find that, in contrast to investments in capital expenditures, leasing appears to be a mechanism through which managers can seemingly over-invest, even among firms with high quality financial reporting and negative free cash flows. Examining economic consequences, we predict and find that unexpected investments in leased assets trigger increasing future sales growth but declining future earnings growth for as long as three years ahead. We also find a negative relation with contemporaneous stock returns, suggesting investors view unexpected investments in leases as value destructive. Finally, despite negative returns consequences, we find that unexpected investments in leases are associated with higher CEO compensation driven primarily by future sales growth. Our study suggests that compensation contracts that reward growth may give managers’ incentives to drive sales growth with larger-than-expected investments in leased assets, which lead to slower future earnings growth and negative share price consequences for investors. Our results should inform managers and board members, investors, and researchers interested in investment efficiency, corporate governance, and leases.

Keywords: leases; investment; corporate governance; compensation; sales growth; earnings growth; stock returns (search for similar items in EconPapers)
JEL-codes: C E F2 F3 G (search for similar items in EconPapers)
Date: 2021
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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