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Do investors forecast fat firms? Evidence from the gold-mining industry

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  • Severin Borenstein
  • Joseph Farrell

Abstract

JEL CODES: D21, G3, L2, L72 KEYWORDS: profit function, free cash flow, gold mining, x-efficiency, rent seeking, fat ABSTRACT: Conventional economic theory assumes that firms always minimize costs given the output they produce. News articles and interviews with executives, however, indicate that firms from time to time engage in cost-cutting exercises. One popular belief is that firms cut costs when they are in economic distress, and grow fat when they are relatively wealthy. We explore this hypothesis by studying how the stock market valuations of gold mining companies vary with gold prices. The value of a cost-minimizing, profit-maximizing firm is convex in the price of a competitively supplied input or output, but we find that the stock values of many gold mining companies are concave in the price of gold. We show that this is consistent with fat accumulation when a firm grows wealthy. We then address a number of potential alternative explanations and discuss where fat in these companies might reside.
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Suggested Citation

  • Severin Borenstein & Joseph Farrell, 2007. "Do investors forecast fat firms? Evidence from the gold-mining industry," RAND Journal of Economics, RAND Corporation, vol. 38(3), pages 626-647, September.
  • Handle: RePEc:bla:randje:v:38:y:2007:i:3:p:626-647
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    File URL: http://hdl.handle.net/10.1111/j.0741-6261.2007.00104.x
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    References listed on IDEAS

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    1. E. A. Selvanathan, 1991. "A Note on the Accuracy of Business Economists' Gold Price Forecasts," Australian Journal of Management, Australian School of Business, vol. 16(1), pages 91-94, June.
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    Citations

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    Cited by:

    1. Jose E. Galdon Sanchez & James A. Schmitz, 1999. "Threats to industry survival and labor productivity: world iron-ore markets in the 1980's," Staff Report 263, Federal Reserve Bank of Minneapolis.
    2. Fisher-Vanden, Karen & Mansur, Erin T. & Wang, Qiong (Juliana), 2015. "Electricity shortages and firm productivity: Evidence from China's industrial firms," Journal of Development Economics, Elsevier, vol. 114(C), pages 172-188.
    3. repec:taf:apeclt:v:24:y:2017:i:2:p:90-94 is not listed on IDEAS
    4. David Levinson & Reinaldo Garcia & Kathy Carlson, 2001. "A Framework for Assessing Public Private Partnerships," Working Papers 200712, University of Minnesota: Nexus Research Group.
    5. Kilponen, Juha & Santavirta, Torsten, 2004. "Competition and Innovation - Microeconometric Evidence using Finnish Data," Research Reports 113, VATT Institute for Economic Research.
    6. Leemore Dafny, 2008. "Are Health Insurance Markets Competitive?," NBER Working Papers 14572, National Bureau of Economic Research, Inc.
    7. Behar Alberto & Hodge James, 2008. "The Employment Effects of Mergers in a Declining Industry: The Case of South African Gold Mining," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 8(1), pages 1-20, August.
    8. Joseph Farrell & Severin Borenstein, 2000. "Is Cost-Cutting Evidence of X-Inefficiency?," American Economic Review, American Economic Association, vol. 90(2), pages 224-227, May.
    9. repec:eee:jrpoli:v:53:y:2017:i:c:p:56-63 is not listed on IDEAS
    10. repec:eee:finana:v:57:y:2018:i:c:p:13-22 is not listed on IDEAS
    11. Jose E. Galdon Sanchez & James A. Schmitz, 2003. "Competitive pressure and labor productivity: world iron ore markets in the 1980s," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Spr, pages 9-23.
    12. Leemore S. Dafny, 2010. "Are Health Insurance Markets Competitive?," American Economic Review, American Economic Association, vol. 100(4), pages 1399-1431, September.
    13. Doh-Shin Jeon, 2003. "A Theory of Information Flows," Working Papers 77, Barcelona Graduate School of Economics.
    14. Shubhasis Dey, 2016. "Historical Events and the Gold Price," Working papers 198, Indian Institute of Management Kozhikode.
    15. O'Connor, Fergal A. & Lucey, Brian M. & Batten, Jonathan A. & Baur, Dirk G., 2015. "The financial economics of gold — A survey," International Review of Financial Analysis, Elsevier, vol. 41(C), pages 186-205.
    16. Doh Shin Jeon, "undated". "Relying on the agent in charge of production for project evaluation," Economics Working Papers 623, Department of Economics and Business, Universitat Pompeu Fabra, revised Jan 2006.
    17. O’Connor, Fergal A. & Lucey, Brian M. & Baur, Dirk G., 2016. "Do gold prices cause production costs? International evidence from country and company data," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 40(C), pages 186-196.
    18. Maliranta, Mika, 2002. "From R&D to Productivity Through Micro-Level Restructuring," Discussion Papers 795, The Research Institute of the Finnish Economy.

    More about this item

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • G3 - Financial Economics - - Corporate Finance and Governance
    • L2 - Industrial Organization - - Firm Objectives, Organization, and Behavior
    • L72 - Industrial Organization - - Industry Studies: Primary Products and Construction - - - Mining, Extraction, and Refining: Other Nonrenewable Resources

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