R&D and Future Stock Returns: A Study of Sweden in the Noughties Under IAS 38

Abstract: Our study aims at assessing the association of research and development (R&D) expenditures with future stock returns. This analysis is drawn from the debate on the existing or absent future benefits related to investments in R&D and the difference between capitalized (treated as assets) R&D and expensed (treated as costs) R&D. This is done in the light of the accounting standards RR 15 and IAS 38. Perhaps the most unique aspect of RR 15/IAS 38 and our study is that before the implementation, capitalization was not required but optional. This optionality leads to a "blurring effect". Potential capitalizers could be found among "true" expensers and too few firms capitalized. Our approach leads to a "purer" way of studying the effects of capitalized and expensed R&D. Our main finding is that unlike the majority of other studies, concerning R&D and especially capitalized R&D, we find an economically and statistically significant negative relationship between capitalized R&D and future three to five year holding period returns. This is still robust when we control for high-intensity R&D industries, such as high-tech industries and bio-tech industries, as well as for the financial crisis that followed the Lehman bankruptcy. The finding questions the investor's ability to evaluate the impact of capitalized R&D under IAS 38.