Wall of Cash: The Investment-Cash Flow Sensitivity When Capital Becomes Abundant

Posted: 15 Nov 2014

See all articles by Niclas Andrén

Niclas Andrén

Lund University - Department of Business Administration

Håkan Jankensgård

Lund University - Department of Business Administration; Knut Wicksell Centre for Financial Studies

Date Written: November 14, 2014

Abstract

In the mid 2000s the oil and gas industry was hit by what might be best described as a ‘wall of cash’ as oil prices successively reached new record levels and access to external financing improved greatly. In this article we investigate what this sudden abundance of liquidity implied for the investment-cash flow relationship, the interpretation of which continues to generate controversy in the literature. For financially constrained firms we find that the investment-cash flow sensitivity decreases in the abundance period (2005-2008), suggesting that the financing constraints became less binding in this period. For financially unconstrained firms the investment-cash flow sensitivity instead increases over time, suggesting that this relationship is driven by agency problems related to free cash flow. Our paper is the first in the investment-cash flow literature to bring evidence from a natural experiment in which there was an unexpected, exogenous, substantial, and persistent decrease in the cost of external financing.

Keywords: Corporate investment, financing constraints, agency costs, investment-cash flow sensitivity

JEL Classification: G30, G32

Suggested Citation

Andrén, Niclas and Jankensgård, Håkan, Wall of Cash: The Investment-Cash Flow Sensitivity When Capital Becomes Abundant (November 14, 2014). Journal of Banking and Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2524355

Niclas Andrén

Lund University - Department of Business Administration ( email )

Box 117
SE-221 00 Lund, S-220 07
Sweden

Håkan Jankensgård (Contact Author)

Lund University - Department of Business Administration ( email )

Box 117
SE-221 00 Lund, S-220 07
Sweden

Knut Wicksell Centre for Financial Studies ( email )

Box 7080
Lund, SE-220 07
Sweden

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