Importance of Catering Incentives for Growth Dynamics

This paper tests whether the dynamics of firm growth metrics, such as sales, investment growth, and changes in Ramp;D and acquisitions, are more consistent with firms delivering growth when stock prices are more sensitive to growth related news (the catering channel) or with firms learning from stock prices about future growth prospects (the information channel). After developing ldquo;growth premiumrdquo; measures, we document four main results consistent with catering theory: 1) time periods of high growth premium are followed by higher-than-expected growth indicators; 2) catering to the premium is more pronounced for firms whose managers care more about maximizing short-term stock price; 3) firms whose managers care more about short-term stock prices have higher time-series volatility of median sales, investment and PPE growth; 4) conditional trading strategy based on timing revenue growth premium yields 26 basis points per month after adjusting for risk and post-earnings announcement drift