Catering and Cash Savings

Abstract

We examine the catering of managers to investors’ preference for cash holdings. We hypothesize that managers are likely to hold cash through different channels when investors prefer high corporate cash holdings. We find that cash is positively related to the cash-holding premium as represented by the difference in the market-to-book (M/B) ratios between cash-rich and non-cash-rich firms. This positive effect can be attributed to different sources such as internal and external financing, and firms may switch their sources for holding cash when catering to investors’ preference. Issuing firms benefit from catering to cash holdings by obtaining higher valuations from the stock market and by being less risky in the period following the increase in cash holdings. Overall, the catering theory helps explain cash savings especially for firms without a good timing window or financing need.

Keywords: Cash holdings, Catering

JEL Classification: G30, G31, G32