How creditor rights affect the value of cash: A cross-country study

We examine how legal protection of creditors affects the value of cash across countries. We find that the marginal value of cash is considerably higher in countries with weak creditor rights. Creditor rights are at least as relevant as shareholder rights, which other studies have found to be an important factor affecting various corporate policies. In addition, we find that marginal investment is more valuable for firms in countries with weak creditor rights. This combines the findings of previous studies that weak creditor protection makes firms financially constrained and that cash is more valuable for financially constrained firms. Subsample analysis suggests that financial constraints generated by weak creditor rights create underinvestment among cash starved firms but alleviate agency conflicts among cash rich firms. Further analysis reveals that good country governance complements laws protecting creditors in cash valuation.     

Cash holdings of politically connected firms

Politically connected firms benefit from soft-budget constraints and are unlikely to suffer from liquidity constraints. This argument suggests that politically connected firms should hold less cash than non-connected peers. Another view posits that these firms exhibit acute corporate governance problems. In this setting, politically connected firms are more likely to hold more cash than non-connected firms. Using a sample of 50,119 firm-year observations from 31 countries, we find that politically connected firms hold more cash than their non-connected peers. We put forth two explanations for this result. Firstly, politicians use politically connected firms as “cash cows” to advance their political agendas. Secondly, political connections are conducive to agency problems. In additional analyses, we find that the positive relationship between political connections and cash holdings is stronger when corporate governance is weak.     

Corporate governance and cash holdings: Evidence from worldwide board reforms

Using staggered board reforms as a quasi-natural experiment and a difference-in-differences approach, this study examines the impact of corporate governance on cash holdings in 41 countries. We find that board reforms are followed by significant reductions in cash holdings. This effect is more pronounced for firms with weaker pre-reform corporate governance and for firms from countries with weaker institutional environments. Analysis of cash spending suggests that, following board reforms, firms are more likely to use cash to increase R&D expenditures, dividend payouts, and share repurchases, but not to increase capital or acquisition expenditures. Finally, the results indicate that enhanced corporate governance following board reforms leads to higher (lower) cash (dividend payouts) values, consistent with the view that board reforms strengthen corporate governance.     

Investor protection,taxation, and dividends

We test the impact of taxes and governance systems on dividend payouts across countries. We show that, unlike previous studies, firms in strong investor protection countries pay lower cash dividends than in weak protection countries when the classical tax system is implemented, but they repurchase more shares to maximise their shareholders' after-tax returns. In weak protection countries, cash dividends and repurchases are low and less responsive to taxes. Our results suggest that when investors are protected, they weigh the tax cost of dividends against the benefit of mitigating the agency cost, but, when they are not, they accept whatever dividends they can extract, even when this entails high tax costs.     

Corporate cash holdings,foreign direct investment,and corporate governance

The determinants of corporate cash holdings in the context of corporate governance theories have recently been analyzed in the literature. In the present study, the behavior of corporate managers in countries with poor shareholder rights protection is more in conformity with the agency problem theory than other corporate governance theories. Also, smaller firms tend to hold larger cash balances relative to their total assets than their larger counterparts. Foreign Direct Investment (FDI) inflows in today's highly integrated capital markets act as substitutes for corporate cash holdings. When firms in G-7 countries are separated from the ones in other countries, FDI inflows demonstrate different effects on international corporate cash holdings: They are substitutes for cash holdings in the former group of countries but become complements for cash holdings by firms in the latter one.     

Corporate governance and firm cash holdings in the US

Using governance metrics based on antitakeover provisions and inside ownership, we find that firms with weaker corporate governance structures actually have smaller cash reserves. When distributing cash to shareholders, firms with weaker governance structures choose to repurchase instead of increasing dividends, avoiding future payout commitments. The combination of excess cash and weak shareholder rights leads to increases in capital expenditures and acquisitions. Firms with low shareholder rights and excess cash have lower profitability and valuations. However, there is only limited evidence that the presence of excess cash alters the overall relation between governance and profitability. In the US, weakly controlled managers choose to spend cash quickly on acquisitions and capital expenditures, rather than hoard it.     

Executive cash compensation and tax aggressiveness of Chinese firms

We examine the influence of corporate compensation policies on firms’ tax aggressiveness in an emerging market where executive compensation is primarily in cash form. Based on a hand-collected dataset of 958 firm-year observations of Chinese listed firms for the 2006–2012 period, we find that firms paying higher executive cash compensation are associated with lower tax aggressiveness. This relationship also holds for the excess cash compensation measures which control for executive shareholding, firm profitability, size, growth opportunity, and board independence. We further document that mutual funds ownership pressure firms paying higher compensation to reduce their tax aggressiveness, suggesting adverse selection by mutual funds on firms exhibiting risky tax avoidance activities. High leverage offsets the negative link between cash compensation and tax aggressiveness, indicating a complementary effect between debt and tax avoidance, and, hence, suggesting that creditor monitoring is weak. These results are robust to the system-GMM estimation, which simultaneously account for the endogeneity of executive compensation, tax aggressiveness, ownership and control, leverage, and corporate governance. Our findings on Chinese firms have important policy implications for developing countries around the world with concentrated ownership structure, weak institutional environment, widespread corruption, ineffective rule of law, and ongoing significant social and political transformation.     

Are Multiple Directorships Beneficial in East Asia?

We posit that the benefits and costs of multiple directorships are conditional on firm characteristics. We find firm valuation is positively associated with multiple directorships in (i) firms with high advising needs and (ii) firms with high external financing needs. These beneficial effects of multiple directorships are generally stronger in countries with weak shareholder rights and in firms that are widely held. However, when controlling shareholder hold high voting‐rights to cash‐flow rights, multiple directorships reduce firm valuation, especially in countries with weak shareholder rights and in closely held firms. As multiple directorships increases, cash holdings (capital expenditures) contribute less to shareholder value. The negative association between value of cash (capital expenditure) and busy boards is mitigated in firms with (i) high advising needs, (ii) high external financing needs and (iii) less entrenched ownership structures.     

Expropriation of minority shareholders and payout policy

This paper studies the payout policy of Italian firms controlled by large majority shareholders (controlled firms). The paper reports that a firm's share of dividends in total payout (dividends plus repurchases) is negatively related to the size of the cash flow stake of the firm's controlling shareholder and positively associated with the wedge between the controlling shareholder's control rights and cash flow rights. These findings are consistent with the substitute model of payout. One of the implications of this model is that controlled firms with weak corporate governance set-ups, in which controlling shareholders have strong incentives to expropriate minority shareholders, tend to prefer dividends over repurchases when disgorging cash.     

The Impact of Investment Opportunities and Free Cash Flow on Financial Liberalization:A Cross-Firm Analysis of Emerging Economies

This study undertakes firm-level analysis of investment opportunities and free cash flow in an attempt to explain the source of the wealth effect of financial liberalization for 14 emerging countries. We find that the market's responses to stock market liberalization announcements are more favorable for high-growth firms than for low-growth firms, a result that is consistent with the investment opportunities hypothesis. We also demonstrate that firms with high cash flow experience lower announcement-period returns associated with stock market liberalization than do firms with low cash flow. Our findings suggest that the free cash flow hypothesis dominates the corporate governance hypothesis in terms of the net effect of stock market liberalization on a firm's stock returns. We further document similar evidence with regard to banking liberalization. Finally, we demonstrate that stock market liberalization leads to the more efficient allocation of capital.     

The determinants of corporate cash management policies: Evidence from around the world

We examine the determinants of corporate cash management policies across a broad sample of international firms. We document that firms in countries with strong legal protection of minority investors are more likely to decrease their cash holdings in response to an increase in cash flow than are firms in countries with weak legal protection. This relationship is most pronounced for firms that are financially constrained and those with high hedging needs. More importantly, we do not find evidence that financial development plays an incremental impact on the cash flow sensitivity of cash, after controlling for the effect of legal protection. Therefore, we argue that the legal protection of investors (rather than financial development) represents the first-order effect in influencing international firms' cash management policies. The results are robust to alternative specifications. In general, our findings reinforce the importance of country-level legal protection of investors in mitigating the effects of firm-level financial constraints and hedging needs on corporate cash management policies.     

Does the reputation mechanism apply to independent directors in emerging markets? Evidence from China

We examine whether reputable independent directors improve firm performance and governance quality in emerging markets, using data from China. Firms with such directors, measured as the number of directorships in other listed firms, have higher profitability, operating efficiency and productivity. They suffer from fewer agency problems, pay more cash dividends and have lower likelihoods of receiving modified audit opinions and participating in financial disclosure-related irregularities than their counterparts. In China’s unique institutional context, the reputation mechanism for independent directors applies to firms in regions with weak marketization environments, non-state-owned enterprises and firms without political connections; it also applies when external governance is weak. Overall, reputable independent directors appear to occupy valuable advising and monitoring roles and compensate for weak institutions and governance in China.     

The Influence of Country‐ and Firm‐level Governance on Financial Reporting Quality: Revisiting the Evidence

This paper examines how firm‐level governance and country‐level governance interplay in shaping financial reporting quality. Using IFRS adoption as a source of variation in firms’ reporting discretion, and a large sample of European firms that mandatorily switch to the new set of standards, we find that in countries with low enforcement and weak oversight over financial reporting, only firms with strong board‐level corporate governance mechanisms experience an increase in financial reporting quality, consistent with firm‐ and country‐level governance mechanisms being substitutes. However, in countries with high enforcement and strict oversight over financial reporting, firms with either strong or weak board‐level governance mechanisms experience an increase in financial reporting quality, even if the increase is larger for the former group. Overall, our findings indicate that in the debate about the effects of governance on the quality of financial reporting, it is important to consider both country‐ and firm‐level corporate governance mechanisms.     

Dissecting the Long-Term Performance of the Chinese Stock Market

Domestically listed Chinese (A-share) firms have lower stock returns than externally listed Chinese, developed, and emerging country firms during 2000 to 2018. They also have lower net cash flows than matched unlisted Chinese firms. The underperformance of both stock and accounting returns is more pronounced for large A-share firms, while small firms show no underperformance along either dimension. Investor sentiment explains low stock returns in the cross-country and within-A-share samples. Institutional deficiencies in listing and delisting processes and weak corporate governance in terms of shareholder value creation are consistent with the underperformance in stock returns and net cash flows.     

A bright side of financial constraints in cash management

This paper tests whether financial constraints play a disciplinary role in cash dissipation in the presence of agency problems. We hypothesize that when firms have difficulty raising external funds, empire-building managers of cash-rich firms will be less likely to spend cash on negative NPV projects as compared to unconstrained managers. Empirically, we examine firm performance after cash dissipation and associate it with the degree of financial constraints. We find that cash spending by managers in financially constrained firms is associated with higher future profitability and stock returns compared to cash spending by managers in unconstrained firms. Further tests reveal that the positive effect of financial constraints on firm performance is not driven by differences in corporate governance. Financial constraints actually substitute for good governance in disciplining managers. We find that corporate governance improves the efficiency of cash dissipation in unconstrained firms, but not in constrained firms. Likewise, financial constraints' disciplinary effect is found to be concentrated in firms that are poorly governed.     

Corporate governance and the value of cash holdings

We investigate how corporate governance impacts firm value by comparing the value and use of cash holdings in poorly and well-governed firms. We show that governance has a substantial impact on value through its impact on cash: $1.00 of cash in a poorly governed firm is valued at only $0.42 to $0.88. Good governance approximately doubles this value. Furthermore, we show that firms with poor corporate governance dissipate cash quickly in ways that significantly reduce operating performance. This negative impact of large cash holdings on future operating performance is cancelled out if the firm is well governed.     

Readability of narrative disclosures,and corporate liquidity and payout policies

In this paper, we examine the relation between the readability of narrative disclosures in 10-K reports, and corporate liquidity and payout policies. We find that firms with less readable disclosures hold significantly more cash. We also find that this relationship is stronger for firms with weak corporate governance, and with higher financing constraints and refinancing risks. Further analysis also shows that firms with less readable disclosures pay fewer cash dividends and repurchase less stock. Our findings are robust to different estimation methods, and to alternative specifications of key variables. The findings from this study contribute to the emerging research that stresses the importance of 10-K report readability in protecting shareholder wealth.     

Do corporate governance mechanisms matter for cash holdings and firm value?

This paper examines the relationships between firm-level corporate governance mechanisms and cash holdings; along with their combined effects on firm value for a sample of firms listed in Singapore and Malaysia. Firms with less effective governance attributes are found to be more inclined to accumulate cash than those with more effective governance. The results support the flexibility hypothesis in that an increase in agency conflicts between managers and minority shareholders leads to entrenched managers having more discretion to hoard cash reserves. In addition, the incremental value of holding excess cash is shown to be negative for firms with a single leadership structure, firms with a pyramidal ownership structure, as well as family-controlled firms. The discounts associated with these firms may reflect investors’ recognition of the possibility of managerial entrenchment.     

Equity market liberalization and corporate governance

Equity market liberalizations open up domestic stock markets to foreign investors. A puzzle in the literature is why developing countries exhibit relatively small financial impacts associated with liberalizations. We use cross-firm variation in corporate governance at the time of the official liberalization of the equity market in Korea to test whether governance can explain the extent to which firms benefit when countries liberalize. The results show that better-governed firms experience significantly greater stock price increases upon equity market liberalization. Following the liberalization in Korea, foreign ownership in firms with strong corporate governance was significantly higher than that in firms with weak governance. Better-governed firms also exhibit higher rates of physical capital accumulation after liberalization.     

Private Control Benefits and Earnings Management: Evidence from Insider Controlled Firms

We examine earnings management practices of insider controlled firms across 22 countries to shed light on the link between consumption of private benefits and earnings management. Insider controlled firms are associated with more earnings management than noninsider controlled firms in weak investor protection countries. Consistent with the private benefits motive, insider controlled firms with greater divergence between cash‐flow rights and control rights are associated with more earnings management in these countries. Growth opportunities attenuate the association between insider control and earnings management even in weak investor protection countries. We also find some weak evidence that insider controlled firms are associated with less earnings management in strong investor protection countries. Overall, our results highlight a strong link between private benefits consumption and earnings management.