Corporate Policies with Permanent and Transitory Shocks

Jean‐Paul Décamps · Sebastian Gryglewicz · Erwan Morellec · Stéphane Villeneuve

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Corporate Finance and Governance Working Capital and Financial Performance Risk Management in Financial Firms

Abstract

We model the financing, cash holdings, and hedging policies of a firm facing financing frictions and subject to permanent and transitory cash flow shocks. The permanent and transitory shocks generate distinct, sometimes opposite, effects on corporate policies. We use the model to develop a rich set of empirical predictions. In our model, correlated permanent and transitory shocks imply less risk, lower cash savings, and a drop in the value of credit lines. The composition of cash-flow shocks affects the cash-flow sensitivity of cash, which can be positive or negative. Optimal hedging of permanent and transitory shocks may involve opposite positions. Received September 16, 2015; editorial decision July 3, 2016 by Editor Itay Goldstein.

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1994Investment Under Uncertainty.1994Investment under Uncertainty 1999The determinants and implications of corporate cash holdings 1982The Value of Waiting to Invest 2004The Cash Flow Sensitivity of Cash 1981A new approach to decomposition of economic time series into permanent and transitory components with particular attention to measurement of the ‘business cycle’1988Estimating the components of the bid/ask spread 1996Market microstructure and asset pricing: On the compensation for illiquidity in stock returns

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