Cash Flow Sensitivity of Investment |
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Authors: | Armen Hovakimian Gayané Hovakimian |
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Institution: | 1. Zicklin School of Business, Baruch College, One Bernard Baruch Way, Box B10–225, New York, NY 10010, USAE‐mail: armen_hovakimian@baruch.cuny.edu;2. Fordham University, Graduate School of Business, 113 West 60th Street, New York, NY 10023, USAE‐mail: hovakimian@fordham.edu |
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Abstract: | 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. |
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Keywords: | investment cash flow sensitivity financial constraints investment managerial overconfidence G30 G31 G32 |
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