Cash flows and leverage adjustments

Faulkender, Michael W.; Flannery, Mark J.; Hankins, Kristine Watson; Smith, Jason M.

doi:10.1016/j.jfineco.2011.10.013

“…[INSERT HERE TABLE 3] We follow Faulkender, Flannery, Hankins, and Smith (2012) In the baseline specification, the FF dummy takes the value of 1 when we observe at least three consecutive periods in which the firm is classified as LL (FF3). There is no theoretical rationale for choosing a specific time length.…”

mentioning

confidence: 99%

Financial Flexibility Across the Euro Area and the UK

Ferrando

¹

,

Marchica

²

,

Mura

³

2013

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Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in EconStor may AcknowledgementsWe would like to thank the participants of the internal seminar at the European Central Bank (ECB) and at the Eastern Finance Association Meeting 2013. We are also thankful to an anonymous referee for useful comments. This research was conducted while Marchica and Mura were visiting the ECB, whose hospitality and support are gratefully acknowledged. The views expressed in this paper only reflect those of the authors and should not be attributed to the ECB. Annalisa Ferrando (corresponding author)European Central Bank; e-mail: annalisa.ferrando@ecb.int Maria-Teresa Marchica University of ManchesterRoberto Mura University of Manchester 1 AbstractWe use a large database of more than 685,000 European firms to show that financial flexibility attained through conservative leverage policies is more important for private, small, medium-sized and young firms and for firms in countries with lower access to credit and weaker investor protection. Further, using the recent financial crisis as a natural experiment, we show that financial flexibility status allows companies to reduce the negative impact of liquidity shocks on their investment decisions. Our findings support the hypothesis that financial flexibility relates to companies' ability to undertake future investment, despite market frictions hampering possible profitable growth opportunities. JEL Classification: G31, G32, D92Keywords: low leverage, financial flexibility, investment, cross-country analysis 2 Non-technical summaryIn an environment where capital markets are imperfect and the cost of external financing increases, companies may implement a conservative leverage policy to maintain "substantial reserves of untapped borrowing power" as pointed out by Modigliani and Miller (1963). This may allow them to access the capital markets in the event of positive shocks to their investment opportunity set.The purpose of our study is twofold. First, we investigate how a conservative debt policy aimed at maintaining financial flexibility can enhance corporate investment ability. Second, we study the value of financial flexibility across a very heterogeneous sample of both publicly traded and privately held firms that vary substantially in size, age, and quality of institutional settings.Our analysis is based on a rich database of more than 685,000 firms from eight euro area countries and the UK. We first identify financially flexible firms (FF) as those that...

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“…Regarding firm specific variables, Faulkender et al (2012) find that large (in absolute value) operating cash flow drives more aggressive changes of leverage towards the target; in Byoun (2008) most adjustments of actual toward the target debt ratio occur when firms face a financial deficit or surplus; also in Dang et al (2012) firms with large financing imbalances, large investments or low earnings volatility, adjust faster. In Warr et al (2012) over-levered firms adjust rapidly when equity is overvalued, while undervalued firms adjust at a much slower pace.…”

Section: A15 -Heterogeneous Ways To Escape From Linearitymentioning

confidence: 94%

“…14 This strand of literature counts a long and non exhaustive list: Fisher et al (1989), Gilson (1997), Roberts (2002), de Haas andPeeters (2006), Drobetz and Wanzenried (2006), Byoun (2008), Cook and Tang (2010), DeAngelo et al (2011), Florysiak (2011), Aybar-Arias et al (2012), Dang et al (2012), Faulkender et al (2012, Halling et al (2012), Korteweg and Strebulaev (2012), Warr et al (2012), Baum et al (2014). Recently, Pereira-Alves and Ferreira (2011), and Oztekin and Flannery (2012) use dummy interactions to extend the international comparison (in the linear model context) of Antoniou et al (2008) to explore the effect of country-specific institutional determinants.…”

Section: Extending the State-of-art Models To Heterogeneity Under Altmentioning

confidence: 99%

“…42 There are cases in which conclusions disagree: for example, Aybar-Arias et al (2012) find that firms adjust faster when the actual debt is closer to the target because of lower adjustment costs, while in Drobetz and Wanzenried (2006) firms further away from optimal capital structure adjust more readily. Faulkender et al (2012) and Korteweg and Strebulaev (2012) use approaches technically more demanding (such as simulated moment estimation and (S, s) models) and carry evidence in favor of firms adjusting towards their target debt ratio with discontinuity, experiencing periods of inaction (i.e. not refinancing) when the actual debt lays inside upper/lower financing thresholds, while issuing transitory debt when actual debt is below the lower threshold.…”

Section: A15 -Heterogeneous Ways To Escape From Linearitymentioning

confidence: 99%

See 1 more Smart Citation

Dynamic Corporate Capital Structure Behavior: Empirical Assessment in the Light of Heterogeneity and Non Stationarity

Bontempi

¹

,

Bottazzi

²

,

Golinelli

³

2015

SSRN Journal

0

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Understanding the dynamics of the leverage ratio is at the heart of the empirical research about firms' capital structure, as they can be very different under alternative theoretical models. The pillars of almost all empirical applications are the maintained assumptions of poolability and stationarity, which are motivated by the need of model's simplicity and treatability, rather than being based on an empirical ground. In this paper we provide robust evidence of non-stationarity for a significantly large share of US firms' debt ratios and of strong heterogeneity in the speeds at which firms adjust towards their targets. These results stimulate new directions of the empirical research on debt ratio dynamics by relying more on the concept of heterogeneous degree of leverage persistence.

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“…Several papers examine firms' adjustment behavior by estimating firms' speed of adjustment toward target leverage and by determining the factors influencing firms' speed of adjustment. For details see e.g., Frank and Goyal (2003) Rangan (2006), Byoun (2008), Florysiak (2011) andFaulkender et al (2012).…”

Section: Introductionmentioning

confidence: 99%

How and When Do Firms Adjust Their Investments Toward Targets?

Florysiak¹,

Elsas

²

,

Schauer

³

2016

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Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in EconStor may AbstractDue to adjustment costs, firms' only partially adjust toward desired investment levels. By exploiting unique survey data on firms' desired investments, we examine how and when firms adjust their investments toward stated plans (targets). More precisely, we examine how financing costs due to asymmetric information, disruption costs, and costs due to asset irreversibility influence firms' adjustment costs and thus adjustment behavior. We find that firms with sufficient cash flows to finance all desired investments adjust significantly faster toward targets than firms with insufficient cash flows. Moreover, firms with either minor investment targets, a large fraction of desired replacement investments or low asset irreversibility adjust within shorter time compared to firms with major investment plans, capacity expansion targets or high asset irreversibility, respectively. Finally, although several prior studies find that the financial crisis of 2008 and 2009 reduced firms' realized investment spending, our results indicate that firms' speed of adjustment toward target investments was not influenced by the crisis.JEL classification: D92; E22; G31; G32.

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Cash flows and leverage adjustments

Cited by 462 publications

References 35 publications

Financial Flexibility Across the Euro Area and the UK

Financial Flexibility Across the Euro Area and the UK

Dynamic Corporate Capital Structure Behavior: Empirical Assessment in the Light of Heterogeneity and Non Stationarity

How and When Do Firms Adjust Their Investments Toward Targets?

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