Cost Structures of Information Technology Products and Digital Products and Services Firms: Implications for Financial Analysis

Abstract

Academic studies investigating the financial management of companies routinely segment data by broad industry groups to facilitate an "apples to apples" comparison and remove possible industry effects. One common segmentation method is to group all information technology (IT) companies into a single category. However, not all IT companies are created equal and their financial management differs greatly due to differences in cost structure, growth potential, products delivered, and general business model. In this study we address the differences between mature publicly-traded digital product and service (DPS) firms and information technology product (ITP) firms using equity market data from 1991-2011. We compare the characteristics of the two firm types and find that DPS firms are significantly less risky, less reliant on physical assets, and outperform the ITP firms. We also find that the market returns for ITP firms are more reactive to costs than DPS firms, yet the reaction to revenue changes appear to be similar. The overall conclusion is that DPS and ITP firms are different and should not be combined into a general information technology category when analyzing their financing needs or strategic decision making. Ignoring these differences will lead to inappropriate or misleading conclusions.