Digitalization and firm performance: channels and heterogeneities

ABSTRACT

In this paper we develop a text-based measure of digitalization using firms’ annual reports with which we examine the effects of digitalization on firm performance using a dataset covering manufacturing and service firms. Our findings show that digitalization increases profitability in manufacturing firms by improving the efficiency of asset utilization to generate sales, yet it has no significant effects on overall profitability in service firms. It is because, on the one hand, digitalization improves asset utilization in these service firms while, on the other hand, cutting into their profits from sales. We also find evidence suggesting that digitalization enhances performance more for firms operating in highly competitive industries, smaller firms and firms with fewer skilled workers. Finally, our main results are robust to the use of instrumental variable estimation, the inclusion of R&D expenses or spatial autocorrelation term as a confounder, the use of mediating model, and the use of alternative fixed effects.

KEYWORDS:

• Digitalization
• firm performance
• information technology
• textual analysis

JEL CLASSIFICATION:

• G32
• O33

Acknowledgement

Shaoqing Huang would like to acknowledge financial support from the National Natural Science Foundation of China (project number: 71973096) and the National Social Science Fund of China (project number: 22AZD036).

Disclosure statement

No potential conflict of interest was reported by the author(s).

Correction Statement

This article has been republished with minor changes. These changes do not impact the academic content of the article.

Notes

¹ Digitalization is the process of employing digital technologies and information to transform business operations, according to Gartner, Inc. See https://www.gartner.com/en/information-technology/glossary

² See Loughran and McDonald (2016) for a recent survey of the use of textual analysis in finance research..

³ We employ Hausman test to select whether the fixed effects model or the random effects model should be used. The empirical results consistently suggest using the fixed effects model, see Panel A of Table 2 for the details.

Table 2. Main results.