On the use and misuse of ratios in strategic management research

Management and especially strategy research rely heavily on the use of ratios to measure a variety of firm, industry, and societal characteristics. Most often, these ratios are created simply to control for size effects (i.e., scaling) emanating from differences in the size of firms, industries, populations, or national economies on the variables of interest. In addition, ratios may also hold theoretical meaning apart from that of their components. Despite the popularity of ratios and regardless of their purpose, the use of ratios is not without controversy. In particular, several studies have demonstrated that the use of ratio measures in correlations and multiple regressions can exaggerate relations of interest leading to biased and unstable results. In this chapter, I review the debate surrounding the use of ratio measures, discuss the problems for estimation and inference that are likely to arise when ratios are used in statistical estimation, and provide alternatives to the use of ratio variables that still satisfy the purpose for which ratio measures are often created.