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Stock Price Crash Risk and Firms’ Operating Leverage

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449
Author
Xin Chang Louis T. W. Cheng Wing Chun (Kaz) Kwok George Wong
Category
Financial
Date Posted
2022/10/05
Date Retrieved
2022/11/22
Date Revised
2022/11/22
Date Written
2022/11/09
Description
We extend Jin and Myers’ (2006) model to derive the relation between stock price crash risk and operating leverage (i.e. the fraction of fixed costs in total costs). The model predicts that (i) firms’ operating leverage decreases as stock price crash risk increases and (ii) the negative effect of crash risk on operating leverage is more pronounced when firms are closer to the crash threshold or when managers face higher costs of stock price crashes. We empirically test the model predictions using a large sample of manufacturing firms in the United States and find consistent results. Further analysis shows that higher crash risk leads to a less sticky cost behavior. In addition crash-risk-driven operating deleveraging effectively reduces stock return volatility and enhances operating performance in subsequent years. Collectively our findings reveal that crash-prone firms adopt a more flexible cost structure and technology to delay stock price crashes and mitigate adverse outcomes.
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D24 G10 G30 M41
Keywords
Crash risk Operating leverage Cost structure Opacity Operating deleveraging Cost Stickiness
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Pages
49
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URL
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4283286
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