Intangible Investment and the Importance of Firm-Specific Factors in the Determination of Earnings

We examine the effect of intangible investment on earnings non-commonality, defined as the extent to which a firm’s earnings performance is determined by firm-specific factors versus market and industry factors. Such insight is important in determining the appropriate weighting of these factors when forecasting a firm’s earnings. For a sample of U.S. firms over the 1980 to 2006 period, we find that earnings non-commonality is positively associated with a firm’s intangible asset intensity. This finding is consistent with the resource-based view (RBV) of the firm, which posits that intangible investments allow firms to differentiate themselves economically from their rivals. We also find that separable recognized intangibles contribute more to earnings non-commonality than either goodwill or R&D, perhaps because separable recognized intangibles are more likely to arise from contractual or legal rights and thus, are less susceptible to expropriation by rival firms. Finally, we find that the positive impact of R&D on earnings non-commonality is significantly greater for those industries where patents and other legal mechanisms are most effective in protecting R&D. This result suggests that the success of intangible investment as a differentiation strategy depends largely on the effectiveness of mechanisms used to protect intangible investments from expropriation