Finding the implicit information asymmetry costs of R&D expenditures? A market-based approach

Abstract

This paper puts forward a novel way of finding the information asymmetry costs of a firm’s R&D investments using a 5-step market-based approach. It then shows how to calculate the breakeven R&D expense, the dollar amount of R&D where the intangible benefits of R&D and the implicit information asymmetry costs of R&D are equal. Finally, the paper suggests some moderating factors that affect these costs and the breakeven R&D. I expect the benefits of R&D investments to start low and increase during the life of the project. On the contrary, information asymmetry costs should start high and then gradually fall. The shape of the two curves would be affected by various factors like industry, analyst following, firm size etc. Similar risk projects should have similar information asymmetry costs and break-even R&D expenditures, assuming market efficiency and rationally informed investors. Risk-averse managers worrying about the high information asymmetry costs of their R&D projects resulting in depressed stock prices for an extended period should find this research very enriching.