How Sensitive is Investment to Cash Flow When Financing is Frictionless?

54 Pages Posted: 11 Nov 2001

See all articles by Aydogan Alti

Aydogan Alti

University of Texas at Austin - Department of Finance

Multiple version iconThere are 2 versions of this paper

Date Written: February 2001

Abstract

This paper analyzes the sensitivity of a firm's investment to its own cash flow in the benchmark case where financing is frictionless. It has been proposed in earlier research that this sensitivity results from financing constraints. This paper shows that the observed investment-cash flow sensitivities obtain in the benchmark case without financing frictions. Cash flow contains information about profitability that is not reflected in Tobin's q, which is a commonly used measure of investment opportunities. As a result, investment is sensitive to cash flow even after conditioning on Tobin's q. Tobin's q is shown to be a worse measure for firms with significant growth opportunities than for mature firms. Consequently, the investment-cash flow sensitivity is higher for firms with growth opportunities, as it is in the data. Given these results, the paper argues that the empirical findings on the investment-cash flow sensitivity cannot be interpreted as evidence for the existence of financing constraints.

Suggested Citation

Alti, Aydogan, How Sensitive is Investment to Cash Flow When Financing is Frictionless? (February 2001). Available at SSRN: https://ssrn.com/abstract=290444 or http://dx.doi.org/10.2139/ssrn.290444

Aydogan Alti (Contact Author)

University of Texas at Austin - Department of Finance ( email )

Red McCombs School of Business
Austin, TX 78712
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
706
Abstract Views
2,648
rank
45,431
PlumX Metrics