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Cash Flow Sensitivity of Investment
Author(s) -
Hovakimian Armen,
Hovakimian Gayané
Publication year - 2009
Publication title -
european financial management
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.311
H-Index - 64
eISSN - 1468-036X
pISSN - 1354-7798
DOI - 10.1111/j.1468-036x.2007.00420.x
Subject(s) - market liquidity , cash flow , monetary economics , cash flow forecasting , operating cash flow , cash flow statement , investment (military) , cash management , business , dividend , cash on cash return , cash conversion cycle , economics , finance , cash and cash equivalents , politics , political science , law
Investment cash flow sensitivity is associated with both underinvestment when cash flows are low and overinvestment when cash flows are high. The accessibility of external capital is positively correlated with cash flows, intensifying investment cash flow sensitivity. Managers actively counteract the variations in internal and external liquidity by accumulating working capital when liquidity is high and draining it when liquidity is low. These results imply that cash flow sensitive firms face financial constraints, which are binding in low cash flow years. Traditional indicators of financial constraints, such as size and dividend payout, successfully distinguish firms that may potentially face constraints, but are less successful in distinguishing between periods of tight and relaxed constraints. These periods are much more clearly separated by the KZ index, which, on the other hand, is less successful in identifying firms that are likely to face liquidity constraints .