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Resource re‐allocation capabilities in internal capital markets: The value of overcoming inertia
Author(s) -
Lovallo Dan,
Brown Alexander L.,
Teece David J.,
Bardolet David
Publication year - 2020
Publication title -
strategic management journal
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 11.035
H-Index - 286
eISSN - 1097-0266
pISSN - 0143-2095
DOI - 10.1002/smj.3157
Subject(s) - profitability index , industrial organization , capital allocation line , capital (architecture) , business , sample (material) , resource (disambiguation) , economics , microeconomics , finance , computer science , chemistry , archaeology , chromatography , history , profit (economics) , computer network
Research summary We examine the correlations between financial resource allocation flow between business segments and two measures of overall firm financial performance using a sample of Compustat firms. Our analysis finds a consistent inverted U‐shape (or alternatively, V‐shape) relationship between those measures and firm profitability. Interestingly, nearly all the data lie on the upward sloping part of the curve. Taken together, these results support the notion that flows of financial capital are most often positively correlated with financial performance.Managerial summary A key question for any organization is how reallocating capital across business units is related to overall firm performance. We examine the correlations of firm profitability with a measure of change in year‐to‐year allocations across business units in a data set of several thousand firms spanning 18 years. Except in cases of the most extreme reallocations, our measure of firm reallocation is positively correlated with firm performance. Because we cannot prove causality, we cautiously conclude that our findings are consistent with a story that, in most cases, firms would benefit from greater internal reallocation of capital. The managerial question then becomes “what dynamic capabilities are necessary to increase the flow of resources across business segments?” Policies aimed at increasing allocation flow are likely to be beneficial.