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The Dynamics of Performance Volatility and Firm Valuation

Published online by Cambridge University Press:  20 February 2017

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We construct a model to illustrate the dynamics of cash-flow volatility (CFV) and firm valuation. As a firm progressively invests in its growth opportunities, its book value increases and catches up with its market value, reducing the valuation multiple (Q). CFV decreases because of the diversification effect of investing in more market segments. We document a positive CFV–Q association, which varies with firm size, investment opportunities, and the correlation across market segments. Empirical findings strongly support the model’s predictions and are robust to alternative explanations offered by extant studies on firm growth, volatility, and valuation.

Research Article
Copyright © Michael G. Foster School of Business, University of Washington 2017 


1 We are very grateful to David Mauer (the referee), whose comments and suggestions significantly improved this paper. We also thank Ferhat Akbas, Emmanuel Alanis, Will Armstrong, Seungho Baek, Kathleen Bentley, Casten Bienz, Fredrik Carlsen, Henry Chang, Saeyoung Chang, Jeff Coles, Sena Durguner, B. Espen Eckbo, Jarrad Harford (the editor), Jørgen Haug, Tyler Hull, Thore Johnsen, Shane Johnson, Kathy Kahle, Sami Keskek, Michael Kisser, Scott Lee, Jøril Mæland, Ted Moorman, Svein-Arne Persson, Francisco Santos, Cornelius Schmidt, Mike Sullivan, Karin Thorburn, Kyle Tippens, Kangzhen Xie, Brian Young, Jianfeng Yu, Andrew Zhang; seminar participants at Arizona State University, Norwegian School of Economics, Norwegian University of Science and Technology, and University of Nevada, Las Vegas; participants at the Eastern Finance Association meeting, Financial Management Association meeting, and International Conference on Financial Risk and Corporate Finance Management; and especially Julie Wu for helpful comments and discussions. Chi gratefully acknowledges support from the National Natural Science Foundation of China (Grant Number 71172136) and summer research grant from Lee Business School at UNLV. Part of the paper was done during Su’s visit at the University of Pennsylvania, kindly sponsored by Franklin Allen, and during Su’s stay at Norwegian University of Science and Technology.


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