Do Financial Resources Determine Cost Behavior?

34 Pages Posted: 20 Jan 2021

See all articles by Håkan Jankensgård

Håkan Jankensgård

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

Nick Christie

Lund University - Department of Business Administration

Date Written: November 22, 2020

Abstract

According to previous research, firms prefer to temporarily maintain unutilized resources when business activity decreases, thereby reducing future ‘congestion costs’ that occur when revenue growth resumes. We argue that such optimizing behavior – referred to in the literature as sticky costs – is conditional on financial resources that support the increase in risk that results from maintaining additional costs. Using data from US manufacturing firms between 1984 and 2018, we find overwhelming support for the hypothesis. Across a range of tests, the most financially constrained firms have the least sticky costs. Firms that lack financial resources such as debt capacity and cash holdings essentially do not exhibit sticky cost behavior. Large firms with significant financial slack, in contrast, display cost stickiness that exceed the baselines results by a factor of three. While the latter finding is suggestive of poor cost discipline, our findings show that these firms are in fact associated with superior cost efficiency. Our results are consistent with the view that excessive adjustment to cost structure is an important component of financial distress.

Keywords: Cost Stickiness, Financial Constraints, Cost Efficiency, Financial Slack

JEL Classification: G30, G32

Suggested Citation

Jankensgård, Håkan and Christie, Nick, Do Financial Resources Determine Cost Behavior? (November 22, 2020). Available at SSRN: https://ssrn.com/abstract=3735713 or http://dx.doi.org/10.2139/ssrn.3735713

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

Nick Christie

Lund University - Department of Business Administration ( email )

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

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