Life cycle effect on the value relevance of common risk factors

Abstract

Purpose

The expected rate of return for individual firms is determined by multiple firm‐specific factors. There is no evidence on how firm life cycle contributes to the determination of the expected rate of return. This study explores how life cycle stage affects the expected rate of return.

Design/methodology/approach

Regression analysis is applied to observe the effect of life cycle. Expected rate of return is dependent variable. Life cycle measures are interacted with commonly identified risk factors. Empirical data was collected for publicly traded firms from COMPUSTAT.

Findings

The major finding of this study is the significant impact of life cycle stage. Results indicate that the value relevance of risk factors is conditional on firm life cycle stage. Findings suggest that capital markets do realize and incorporate information conveyed in firm life cycle stage when interpreting risk factors.

Research limitations/implications

Future research can explore effects of life cycle stage on share return volatility as investors trade off between return and risk.

Originality/value

This study targets a major aspect (i.e. what determine the expected rate of return in the finance literature) to shed light on the limited understanding of what contribute to individual firms’ risk premium. This study has implications for investor risk assessment and corporate risk management.

Citation

Xu, B. (2007), "Life cycle effect on the value relevance of common risk factors", Review of Accounting and Finance, Vol. 6 No. 2, pp. 162-175. https://doi.org/10.1108/14757700710750838