IT investments tend to be considered valuable by the stock market due to their strategic nature and capacity of influencing profit growth and revenues of firms. A new study that such investments are also important for bond markets.

A new study carried out by professors Sunil Mithas and Michael Kimbrough at the University of Maryland’s Robert H. Smith School of Business, with Keongtae Kim, a Smith School PhD graduate and now assistant professor at the Chinese University of Hong Kong, notes the importance of IT investments for bond markets.

The study notes that IT investments have a different value for bond markets, when compared to stock markets, which is affected by the strategic roles of IT in industries and the types of risks they create.

Bond markets represent the largest source of financing for U.S. firms. As an example, in 2016 firms in the United States raised $1.49 trillion through corporate bonds, creating a huge gap with the funds financed through stock markets. Big technology firms, such as Tesla, Amazon and Microsoft, often use bond markets to access capital to buy back shares or for their strategic growth investments.

Dr Mithas and his team found that bond investors and credit rating agencies are more likely to IT invest in industries where IT is used mostly to automate business processes and to facilitate richer information flows, in contrast with industries where IT transforms services, product and business models. One reason for this may be that, despite IT investments capacity of creating higher future cash flows, such cash flows are especially volatile in transform industries – creating a downside risk in such industries for bondholders.

A key insight from the study is that IT investments are both associated with a firm’s operational performance and related to financing costs such as costs of debt.

Thus, “senior managers may need to look beyond measuring the improvement in organizational performance driven by IT assets and also consider the potential financial benefits of increased IT capabilities, such as the willingness of corporate bond investors to accept lower financing costs,” Dr Mithas and his co-authors suggest.

Because bondholders view IT investments in transform industries as riskier than in other industries, firms should use bond markets strategically differently, according to the kind of industry they operate in.

Firms in transform industries may be able to lower their borrowing costs by sharing more information about IT investments with bond investors to alleviate their concerns about the risks of such investments. Likewise, firms in other industries may be able to lower their borrowing costs by making disclosures to bondholders that highlight the low risks and stable cash flows associated with their IT investments.

The findings are important as firms invest more in various emerging digital technologies such as artificial intelligence, blockchain, cloud computing and Internet of Things. Investments in such technologies are likely to bring huge growth potential but at the same time may pose serious risks in implementing them. Therefore, understanding way in which shareholders and bondholders behave and their views towards IT investments will be crucial for firms to get their digital stories right.

Written by: Pietro Paolo Frigenti

Journal Reference: Keongtae Kim, Sunil Mithas, Michael Kimbrough. Information Technology Investments and Firm Risk Across Industries: Evidence from the Bond Market. MIS Quarterly, 2017; 41 (4): 1347 DOI: 10.25300/MISQ/2017/41.4.15