Research

Although the prevalence of losses has been increasing over the years, little is known regarding managerial decisions resulting in reversing losses back to profits. We find cost-elasticity choices implied by operating actions made in advance significantly increase the likelihood of loss reversal. The results are robust to different estimation procedures and a battery of sensitivity analyses. The results are stronger for losses reported during an exogenous shock, the 2008 financial crisis, suggesting a causal effect. The contributions are twofold. First, we shed light on a mechanism underlying loss reversal. Particularly, we promote our understanding of how cost-elasticity choices made in advance affect the likelihood of loss reversal. Moreover, we demonstrate the likelihood of exercising the abandonment option is negatively and significantly related to cost elasticity. Second, the findings enrich the cost-accounting literature by demonstrating a meaningful implication of cost-elasticity choice.