Managerial Overconfidence and Corporate Investment Decision-Making: Theoretical and Empirical Studies

Kommalapati, Magdalena (2024) Managerial Overconfidence and Corporate Investment Decision-Making: Theoretical and Empirical Studies. Doctoral thesis, Birmingham City University.

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Abstract

Chapter I of this PhD thesis is a literature review that systematically analyses the existing literature on behavioural and traditional finance. It critically examines traditional finance theories' limitations in explaining market irregularities and emphasizes the rising importance of behavioural finance. It highlights how conventional theories fall short in understanding market dynamics, paving the way for behavioural finance. The chapter explores overconfidence bias, a significant cognitive bias affecting financial decision-making, and debates whether it should be analysed separately as three distinct concepts (overprecision, overplacement and overestimation) or as a unified concept of overconfidence. It concludes that while behavioural finance complements traditional finance, it cannot replace it. Integrating insights from both fields is crucial for informed investment decisions. Regarding overconfidence bias, it notes challenges in accurately measuring its various aspects but advocates for studying them under a unified concept.

Chapter II introduces a theoretical model that utilizes algebraic expressions to analyse decision-making scenarios and assess the optimality of entrepreneurs' choices under different psychological states, including rationality, overconfidence, and pessimism. This chapter pioneers the examination of investment and organizational form selection through a behavioural finance lens. It introduces a model where entrepreneurs face three choices: launching an investment project with limited liability, initiating a project with unlimited liability, or refraining from action altogether. Entrepreneurs' decisions hinge on factors like projected project performance, their level of bias towards project expectations, and tax considerations encompassing both corporate and personal income taxes. When entrepreneurs exhibit overconfidence or pessimism, scenarios of overinvestment or underinvestment arise. The model suggests that effective government policy should account for the prevalent entrepreneurial bias. If confidence diminishes to breed pessimism, tax rates (both corporate and personal) should decrease; conversely, if overconfidence prevails, tax rates should rise. The study demonstrates that a combination of corporate tax tailored for limited liability businesses and a universal personal income tax could enhance decision-making efficiency and bolster social surplus.

The aim of Chapter III of the thesis is to analyse how CEO characteristics, managerial overconfidence and financial factors influence investment levels in UK SMEs. The dataset in use encompasses 256 UK SMEs, spanning the years 2014 to 2019. To measure CEO overconfidence, a proxy was created based on 2421 manually gathered articles depicting CEOs. The data has been analysed using the R programming language, employing four econometric models: Generalized Method of Moments (GMM), Fixed Effects, Random Effects, and Ordinary Least Squares (OLS) regressions. The study's findings emphasize the weight of CEO behavioural biases, especially overconfidence, and their personal attributes in shaping investment choices. Notably, a positive correlation emerges between CEO overconfidence and investment rates, signifying that highly confident CEOs tend to embrace more extensive investment. Similarly, CEO’s level of experience positively correlates with higher investment rates. In contrast, CEO tenure, age, and the count of directors exhibit negative relationships with investment levels. Of the economic factors considered, inflation was the sole variable that exhibited a noteworthy impact on the investment level.

Item Type:	Thesis (Doctoral)
Dates:	Date Event 6 September 2024 Accepted
Uncontrolled Keywords:	Overconfidence, investment, overprecision, overestimation, tax
Subjects:	CAH17 - business and management > CAH17-01 - business and management > CAH17-01-02 - business studies CAH17 - business and management > CAH17-01 - business and management > CAH17-01-04 - management studies
Divisions:	Doctoral Research College > Doctoral Theses Collection Faculty of Business, Law and Social Sciences > College of Business, Digital Transformation & Entrepreneurship
Depositing User:	Jaycie Carter
Date Deposited:	08 Oct 2024 09:43
Last Modified:	08 Oct 2024 09:43
URI:	https://www.open-access.bcu.ac.uk/id/eprint/15891

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