Do Well Managed Firms Make Better Forecasts?

Summary

In this project a new UK management survey is linked to panel data on productivity in manufacturing and services. We find that better managed firms make more accurate micro and macro forecasts and observe that these firms are aware of this, enabling them to make superior operational and strategic choices.

Overview

We link a new UK management survey covering 8,000 firms to panel data on productivity in manufacturing and services. There is a large variation in management practices, which are highly correlated with productivity, profitability and size. Uniquely, the survey collects firms’ micro forecasts of their own sales and also macro forecasts of GDP. We find that better managed firms make more accurate micro and macro forecasts, even after controlling for their size, age, industry and many other factors. We also show better managed firms appear aware that their forecasts are more accurate, with lower subjective uncertainty around central values. These stylized facts suggest that one reason for the superior performance of better managed firms is that they knowingly make more accurate forecasts, enabling them to make superior operational and strategic choices.

Methods

The MES collects expectations data at the business level, building on the U.S. Management and Organizational Practices Survey (MOPS), Decision Maker Panel (DMP) and the Atlanta Fed Survey of Business Uncertainty (SBU). The MES survey attempts to measure three aspects of firms’ management practices:

monitoring – how well does the firm monitor its operations and use this information for continuous improvement (e.g. effectively collecting and using key performance indicators)?
targets – are the firm’s targets stretching, tracked and appropriately reviewed?
incentives – is the firm promoting and rewarding employees based on performance, managing employee underperformance, making careful hiring decisions and providing adequate training opportunities?

Based on the response to each question, we retrieve the management score for each firm using an identical methodology to the US MOPS, which facilitates international comparisons.

The MES survey reference year was 2016, but also collected firm-level expectations of turnover, expenditure, investment and employment growth for 2017 and 2018. In particular, the survey asked respondents to report their 2018 expectations using a 5-point bin, assigning a probability to each bin, for each of the four firm-level indicators. It also asks businesses to predict economy wide GDP growth 2017-18 using similar bins to the Bank of England’s survey of external forecasters. This allows us to evaluate business forecasts against professional forecasters.

By combining a quantitative measure of management with direct expectations data of firms about both macro- and micro-outcomes, we obtain a set of robust stylized facts:

Management practices vary substantially across firms – the 10th percentile of firms lacks robust monitoring or feedback processes, has limited performance incentives or employee training, while the 90th percentile are as well managed as leading firms internationally.
Management practices are strongly associated with superior firm performance – better managed firms have higher productivity, higher profitability, size, and a greater likelihood of exporting.
Management scores are higher in foreign-owned multinational firms and are lower in family-owned and family-run firms.
Better managed firms are able to make much more accurate forecasts about macro GDP growth and their own micro sales growth.
Firms with high management scores are also aware their micro and macro forecasts are more accurate in that they have lower subjective uncertainty in their predictions.

Findings

We find that:

there is a large variation in UK management practices;
productivity, profitability and size are significantly higher in firms with more structured management, and
that structured management is systematically greater in firms that are foreign owned and more skilled, and lower in firms that are family owned or run.

If better management enables superior predictions of growth, then firms are more likely to be making optimal decisions over the appropriate composition of factor inputs (as well as other strategic decisions). To put it simply, better managed firms make better forecasts and as a consequence better business decisions. The higher productivity and profitability of well managed firms may, at least in part, over this better allocation of factors, a micro equivalent of the macrolevel findings in Hsieh and Klenow (2009) . This is a hypothesis we intend to pursue in future work.