R&D manipulation around SEOs and SEO valuations

Abstract

Prior research finds T&D reductions around SEOs are linked to insider ownership decreases. This suggests that insiders underinvest in R&D to inflate earnings so as to increase SEO value. We construct a variable that measures R&D underinvestment, and use this variable within a regression methodology to test its effect on SEO valuation. We discover greater R&D underinvestment is associated with lower valuation even before the announcement of an SEO, frustrating insiders' efforts to increase SEO value by reducing R&D. We also find that lower valuation of SEO firms due to R&D underinvestment continues up to two years after SEOs.