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Managers’ Assessment of Economic Factors and Firms’ Investment Efficiency Open Access

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The success of a firm critically depends on the success of its’ managers’ investment decisions. This study seeks to add to the literature that provides evidence on the determinants of managers’ investment decision-making process. Specifically, this study investigates how managers’ assessment of economic factors (such as interest rates and inflation) influences their valuation of investment projects and thus is associated with their investment efficiency. Using the weight that managers assign to economic factors when providing earnings forecasts as an empirical measure for the managers’ assessment of economic factors, I find that managers who mis-weight economic factors in prior quarters invest inefficiently in the next quarter. Further, I find that such inefficient investing varies with the economic state: managers who over-weight economic factors over-invest in economic upturns due to over-optimism and under-invest in economic downturns due to over-pessimism. Overall, the findings suggest that managers’ assessment of economic factors is an important determinant of their investment efficiency. This study provides insights into managers’ valuation process and the resulting impact on their investment decisions. Moreover, the setting of this study demonstrates how a firm’s external disclosure is associated with the firm’s internal strategic decisions.

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