Does Cash Flow Volatility Affect Firm Value? Its Impact on Discretionary Investment and the Costs of Debt and Equity Financing
Dice Center Working Paper 98-3
Posted: 11 Aug 1998
In this paper, we document that cash flow volatility is associated with underinvestment in capital expenditures, R&D, and advertising. Cash flow volatility also increases the costs of accessing capital markets that could be used to cover cash shortfalls. This more costly access, in turn, exacerbates the underinvestment problem. Together, underinvestment and more costly access to capital markets lead to a negative association between volatility and equity value, as measured by market-to-book ratios. Our findings provide direct evidence about the costs associated with both cash flow and accounting earnings volatility.
JEL Classification: G31
Suggested Citation: Suggested Citation