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Investment and Cash Flow: New Evidence

186 citations0/0 files storedJournal of Financial and Quantitative Analysis

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Corporate Finance and Governance Financial Markets and Investment Strategies Financial Analysis and Corporate Governance

Abstract

We study the investment-cashflow sensitivities of U.S. firms from 1971–2009. Our tests extend the literature in several key ways and provide strong evidence that cashflow explains investment beyond its correlation with q. In simple OLS regressions, a dollar of current- and prior-year cashflow is associated with $0.53 of additional investment for firms that are the least likely to be constrained and $0.67 for firms that are the most likely to be constrained. Investment-cashflow sensitivities for the two groups drop to a conservatively estimated but still significant 0.32 and 0.63, respectively, after correcting for measurement error in M/B. Our results suggest that financing constraints and free cashflow problems are important for investment decisions.

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References

1986Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers 1973Risk, Return, and Equilibrium: Empirical Tests 2008Estimating Standard Errors in Finance Panel Data Sets: Comparing Approaches 1996Agency costs of free cash flow, corporate finance, and takeovers 1997Do Investment-Cash Flow Sensitivities Provide Useful Measures of Financing Constraints?1988Financing Constraints and Corporate Investment 1987Financing Constraints and Corporate Investment 1990Managerial discretion and optimal financing policies

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