Inventory Write-Downs in the Semiconductor Industry

We study motives for and impacts of management discretion in inventory valuation. The semiconductor industry, with continual output price declines and rapid product obsolescence, provides an ideal setting to examine managers’ inventory write-down and production decisions. In this context, we develop a measure of ‘excess inventory’ and find that inventory write-downs are strongly correlated with this measure. We also find that inventory write-downs are timed strategically in periods of poor performance consistent with ‘big bath’ incentives. We construct a proxy for abnormal write-downs, and find that it is positively associated with subsequent operating performance, and negatively associated with future write-downs. Neither analysts, nor investors appear to fully appreciate the predictable implications of abnormal write-downs for subsequent operating performance.