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Measuring Corporate Profit Opportunities

Published online by Cambridge University Press:  19 October 2009

Willard T. Carleton  and
Eugene M. Lerner
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Extract

The concept that corporate investment-growth decisions are constrained by a profit opportunities schedule is central to much of the literature on finance and the theory of the firm. These writings suggest that, for a single firm: (1) the profit opportunities schedule is a decreasing function of investment growth (the slope reflecting, inter alia, competitive conditions); (2) the schedule shifts to the right with changes in national income (except for a firm producing income-inferior goods), and (3) the schedule's position (intercept) at a moment in time reflects a host of factors that are summarized by the term “management.”

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 2 , Issue 3 , September 1967 , pp. 225 - 240
Copyright
Copyright © School of Business Administration, University of Washington 1967

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References

1 For example, see Modigliani, Franco and Miller, Merton, “The Cost of Capital, Corporation Finance and the Theory of Investment,” American Economic Review, June, 1958, pp. 261–298Google Scholar; Lintner, John, “The Cost of Capital and Optimum Financing of Corporations,” Journal of Finance, May, 1963, pp. 292–310Google Scholar; Gordon, Myron, The Investment, Financing and Valuation of the Corporation (Homewood, Ill.: Richard D. Irwin, 1962)Google Scholar; Lerner, Eugene M. and Carleton, Willard T., “The Integration of Capital Budgeting and Stock Valuation,” American Economic Review, September, 1964, pp. 683–702Google Scholar; and Lerner, Eugene M. and Carleton, Willard T., “Financing Decisions of the Firm,” Journal of Finance, May, 1966, pp. 202–214Google Scholar.

2 Lerner, and Carleton, , A Theory of Financial Analysis (New York: Harcourt, Brace and World, 1966), Ch. 5Google Scholar.

3 Such requirements are that E(eit) = 0 for all i, t and E(eit ei′t′)2 = σ2 for i ≠i′ and t≠t′ but σ2 = 0 for i ≠ i′ or t ≠ t′. Pooled time series-cross section regressions of this sort, while not common, can be found. For example, see Kaneda, Hiromitsu, “Substitution of Labor and Non-Labor Inputs and Technical Changes in Japanese Agriculture,” The Review of Economics and Statistics, Vol. XLVII, No. 2, May, 1965, pp. 163–171Google Scholar; also, Korbel, John, “A Micro-Analytic Model of the Generation and Appreciation of Savings in Small Business,” The Review of Economics and Statistics, Vol. XLVII, No. 3, August, 1965, pp. 279–286Google Scholar.

4 Whether a one-tailed or two-tailed test is used, the six coefficients are significantly different from zero at the .01 level, and the other three coefficients are not significantly different from zero at the .05 level. There is thus no ambiguity in the table presentation.