Robert J. Resutek

Beyond a One-Size-Fits-All Mentality: An Experimental Investigation of How Narcissistic Employees Respond to Relative Performance Information

We extend prior research on performance reporting by examining how individual traits and environmental features affect the willingness of managers to report honestly. Drawing on research in psychology, we expect narcissism and the desire for social status to compete with preferences for honesty. To test our predictions, we use an experimental research design that orthogonalizes financial incentives (cash compensation) from non-financial incentives (social status). Consistent with our predictions, we find that narcissism, a stable and measurable personality trait, induces participants to inflate reported performance, but only when the participant views the task as important. We also provide evidence that these influences are especially pronounced when managers feel challenged to be the top performer. In addition, we find that even non-narcissistic participants are prone to inflate reported performance in settings that reward high reported performance with social status. Together, these results have several implications related to hiring practices and the design of control systems, as well as audit planning.

The Predictive Power of Investment and Accruals

We test whether investment explains the accrual anomaly by splitting total accruals into investment-related and “nontransaction” accruals, items such as depreciation and asset write-downs that do not represent new investment expenditures. The two types of accruals have very different predictive power for firm performance, not just for future earnings but also for future cash flow and stock returns. Most importantly, nontransaction accruals have the strongest negative predictive slopes for earnings and stock returns, contrary to the predictions of the investment hypothesis. A long-short portfolio based on nontransaction accruals has a significant average return of 0.71 % monthly from 1972 to 2010 and remains profitable at the end of the sample when returns on other accrual strategies decline. Our results suggest that nontransaction accruals are the least reliable component of accruals and show that a significant portion of the accrual anomaly cannot be explained by investment.

Types of Investor Uncertainty and Cost of Equity

This study examines the explanatory power of different sources of investor uncertainty for expected stock returns and implied costs of equity. We develop novel estimates of two sources of investor uncertainty, one related to future performance and unrelated to accrual errors (cash flow uncertainty) and one related to investor uncertainty of future performance because of accrual errors (information quality uncertainty). Distinct from prior studies, our estimates of investor uncertainty are forward-looking, represent conditional volatilities surrounding expectations of future cash flows and accruals, and are based on a matched-firm process that minimizes the mechanical correlation between the two uncertainty variables. Our tests reveal that different types of investor uncertainty have different, and countervailing, effects on cost of equity in a manner directionally consistent with theory. We find a strong negative relation between cash flow uncertainty and multiple estimates of cost of equity with economic magnitudes similar to those on book-to-market and accruals. In addition, incremental to cash flow uncertainty, we find a strong positive association between information quality uncertainty and future stock returns. Collectively, our study offers the first direct empirical evidence that different sources of investor uncertainty can have countervailing effects on costs of equity.