Wake-Up Call from the Past Investments

Abstract

Asset impairment accounting requires firms to reassess their existing assets-in-place, namely, the outcomes of past investments, which enriches the information environment within the firm. We investigate whether this reassessment influences corporate investment strategies for long-term growth. For identification, we employ the Regression Kink Design (RKD) that exploits a kink in asset impairment accounting rules: the sensitivity of the likelihood of asset impairments to the book-to-market ratio of assets (BTM) sharply increases when BTM exceeds one. We find a positive kink in R&D expenditures but a negative kink in over-investment in capital expenditures and acquisitions when BTM exceeds one. We also find that heightened impairment risk is associated with an increase in the value of subsequent patent filings and firm performance, suggesting that reassessment of past investments promotes the firm’s long-term growth.