Cooper, Gulen & Schill (2008): Why Fast-Growing Companies Underperform

#The Paper at a Glance

Title: Asset growth and the cross-section of stock returns

Authors: Michael J. Cooper, Huseyin Gulen, and Michael J. Schill

Published: Journal of Finance, 2008

DOI: 10.1111/j.1540-6261.2008.01370.x

This paper provided the most comprehensive evidence for what practitioners had long suspected: companies that invest aggressively tend to underperform. The finding is robust, economically significant, and has important implications for evaluating corporate strategy.

#What the Paper Found

Total Asset Growth

Cooper et al. measured asset growth simply:

Asset Growth = (Total Assets This Year - Total Assets Last Year) / Total Assets Last Year

Then they sorted all U.S. stocks by asset growth and measured subsequent returns:

The spread of 8.1% per year is enormous—larger than the value premium and comparable to momentum.

It Works Everywhere

The effect is robust across: - Large caps and small caps - All time periods (1963-2003, and confirmed in subsequent decades) - After controlling for value, momentum, profitability - International markets (subsequent research)

#Why Aggressive Growth Destroys Value

1. Empire Building

Corporate managers have incentives to grow their empires: - Larger companies → higher executive compensation - More employees → more prestige and power - Bigger organizations → more resources to control

But growth for growth's sake destroys shareholder value when capital is invested in low-return projects.

2. Winner's Curse in Acquisitions

Much of asset growth comes from acquisitions. Studies consistently show: - Most acquisitions destroy value for the acquiring company - Bidding wars lead to overpayment (winner's curse) - Integration is harder and more expensive than expected

3. Overinvestment

When companies have excess cash flow, they tend to invest it—even when there aren't good opportunities: - Marginal projects get funded because cash is available - Capital allocation discipline breaks down - Returns on invested capital decline as the asset base grows

4. Market Timing by Companies

Companies tend to grow aggressively when their stock is overvalued: - Issue stock at high prices (asset growth through equity issuance) - Make acquisitions using overvalued stock as currency - Both signal the market is pricing the company too generously

#What Conservative Investment Signals

If aggressive growth is bad, what does conservative investment signal?

Conservative firms are essentially signaling: "We don't invest unless the returns justify it." This discipline is exactly what creates long-term shareholder value.

#Connection to the Fama-French Five-Factor Model

Fama and French (2015) incorporated the investment effect into their five-factor model as the CMA (Conservative Minus Aggressive) factor. Cooper et al.'s work provided key empirical evidence for this addition.

The CMA factor captures the same basic idea: conservative firms outperform aggressive firms—but uses a slightly different measurement approach.

#How This Applies to Our Rankings

Our investment factor (10% weight) directly measures capital discipline following the insights from Cooper et al. and Fama & French.

We measure asset growth and rank stocks inversely—companies with lower asset growth receive higher investment scores. This captures:

• Capital allocation discipline
• Avoidance of empire-building
• Selective, high-return investing
• Management quality through revealed behavior

Combined with our profitability factor (30%), which measures whether a company generates strong returns on its existing assets, the investment factor provides a complete picture of capital efficiency.

See conservative-investment stocks →

#Academic Source

Cooper, M. J., Gulen, H., & Schill, M. J. (2008). "Asset growth and the cross-section of stock returns." Journal of Finance, 63(4), 1609-1651.