Measuring Firm Size in Empirical Corporate Finance
Abstract: In empirical corporate finance, firm size is commonly used as an important, fundamental firm characteristic. However, no paper comprehensively assesses the sensitivity of empirical results in corporate finance to different measures of firm size. This paper fills this hole by providing empirical evidence for “measurement effect” in “size effect”. In particular, this paper studies the influences of employing different proxies (total assets, total sales, and market capitalization) of firm size in 20 prominent areas in empirical corporate finance research. We highlight several empirical implications. First, in most areas of corporate finance, the coefficients of firm size measures are robust in sign and statistical significance. However, when studying firm performance and capital structure, researchers should pay extra attention because firm size proxies (e.g., market cap) can be mechanically correlated. Second, the coefficients on regressors other than firm size often change sign and significance when we use different size measures. We observe this phenomenon in almost all areas except dividend policy and executive compensation. Unfortunately, this may suggest that some previous studies are not robust to different firm size proxies. Researchers should either check robustness with all the important firm size measures or provide a rationale of using any specific measure. Third, the goodness of fit measured by R-squared also varies with different size measures, suggesting some measures are more relevant than others in different situations. Fourth, different proxies capture different aspects of “firm size” and thus have different implications in corporate finance. Therefore, the choice of size measures needs both theoretical and empirical justification. Our empirical assessment provides guidance to empirical corporate finance researchers who must use firm size measures in their work.
