scholarly journals Capital Budgeting and Risk Taking Under Credit Constraints

2020 ◽  
Vol 66 (9) ◽  
pp. 4292-4314
Author(s):  
Felipe S. Iachan
Keyword(s):  
Capital Budgeting ◽  
Capital Allocation ◽  
External Financing ◽  
Firm Level ◽  
Cross Sectional ◽  
Net Worth ◽  
Investment Projects ◽  
Collateral Constraints ◽  
Financial Hedging ◽  
Allocation Decisions

Limited external financing creates a hedging motive that distorts resource allocation for investment projects. I study these distortions through a dynamic model with endogenous collateral constraints. The hedging motive can be broken into three components: expected future productivity, leverage capacity, and current net worth. Although constrained firms behave as if averse to transitory fluctuations in net worth, they can endogenously pursue increased exposure to both persistent factors that predict future productivity and fluctuations in credit tightness. The most constrained firms abstain from financial hedging, while still distorting capital-allocation decisions, thereby influencing firm-level volatility. These distortions contribute to a potential explanation for the negative cross-sectional relationship between volatility and net worth. This paper was accepted by Gustavo Manso, Finance.

scholarly journals Optimal Dynamic Capital Budgeting

2018 ◽  
Vol 86 (4) ◽  
pp. 1747-1778 ◽  
Author(s):  
Andrey Malenko
Keyword(s):  
Optimal Design ◽  
Capital Budgeting ◽  
Capital Allocation ◽  
Past Performance ◽  
Investment Projects ◽  
Empire Building ◽  
Allocation Process ◽  
Optimal Dynamic ◽  
Over Time

Abstract I study optimal design of a dynamic capital allocation process in an organization in which the division manager with empire-building preferences privately observes the arrival and properties of investment projects, and headquarters can audit projects at a cost. Under certain conditions, a budgeting mechanism with threshold separation of financing is optimal. Headquarters: (1) allocate a spending account to the manager and replenish it over time; (2) set a threshold, such that projects below it are financed from the account, while projects above are financed fully by headquarters upon an audit. Further analysis studies when co-financing of projects is optimal and how the size of the account depends on past performance of projects.

Financial Development and the Cash Flow Sensitivity of Cash

2006 ◽  
Vol 41 (4) ◽  
pp. 787-808 ◽  
Author(s):  
Inder K. Khurana ◽  
Xiumin Martin ◽  
Raynolde Pereira
Keyword(s):  
Financial Development ◽  
Cash Flow ◽  
Financial Constraints ◽  
Cash Holdings ◽  
Cash Flows ◽  
External Financing ◽  
Firm Level ◽  
Investment Projects ◽  
Flow Sensitivity ◽  
Cash Flow Sensitivity

AbstractPrior research posits that market imperfections and the lack of institutions that protect investor interests create a divergence between the cost of internal and external funds, thereby constraining firms' ability to fund investment projects through external financing. Financial constraints force firms to manage their cash flows to finance potentially profitable projects. A related stream of research documents that financial constraints due to costly external financing are more pronounced in underdeveloped financial markets. We examine the influence of financial development on the demand for liquidity by focusing on how financial development affects the sensitivity of firms' cash holdings to their cash flows. Using firm-level data for 35 countries covering about 12,782 firms for the years 1994–2002, we find the sensitivity of cash holdings to cash flows decreases with financial development. We also consider additional implications of firms' cash flow sensitivity of cash with respect to firm size and business cycles. Overall, we provide new cross-country evidence of the role of financial development on financial constraints.

scholarly journals Funding Gap in Hydropower Projects of Nepal: Does Internal Finance Matter?

2018 ◽  
Vol 9 ◽  
pp. 34-52
Author(s):  
Kapil Deb Subedi
Keyword(s):  
Investment Decisions ◽  
Cash Flows ◽  
Current Status ◽  
Financing Constraints ◽  
Cross Sectional ◽  
Hydro Power ◽  
Net Worth ◽  
Investment Projects ◽  
Study Results ◽  
The Government

 This paper aims to examine the current status of investment and availability of financing to hydro power companies in Nepal. Using pooled cross sectional data of NEPSE listed companies; a regression equation has been estimated to determine the effect of financing constraints on investment decisions of hydro companies. The study results confirm that internal cash flows and leverage are the major determinants of investment decisions in Nepalese hydro companies. Moreover, the coefficient of internal cash flow is significantly strong and positive showing its interdependency in financing new investment projects of hydro companies. This relationship strongly supports the financing constraints hypothesis that indicates the capital market frictions as the major obstacle of hydro investment in Nepal. Although the companies have access to banks and foreign capital, still the financing gaps persist and they are highly dependent on their internal cash flows for investment. Additionally, the volatility of cash flows and sales of hydro companies along with their long gestation period pose a significant credit risk to banks and lending institutions that hinder them to provide as much credit as they demand. Besides, the cyclical variations of net worth and collateral values of hydro companies during the tough economic period also resist them to obtain enough finance for further investment. Hence, the government should ensure with appropriate policies, information systems and regulatory mechanism that enable well functioning of capital markets to efficient flows of funds either in the form of equity or debt to boost up the hydropower investment in Nepal.The Sapta Gandaki JournalVol. IX, 2018 Feb. Page: 34-52

Capital Rationing and Managerial Retention: The Role of External Capital

2011 ◽  
Vol 23 (1) ◽  
pp. 285-304 ◽  
Author(s):  
Ying-Ju Chen ◽  
Mingcherng Deng
Keyword(s):  
Capital Budgeting ◽  
Capital Allocation ◽  
Investment Projects ◽  
Capital Productivity ◽  
External Capital ◽  
Capital Rationing ◽  
New Challenges ◽  
Budgeting Process

ABSTRACT In modern businesses, firms face new challenges of managerial retention in a capital budgeting process. We consider a model in which a manager privately observes the capital productivity of a project and has access to multiple outside financing options. We show that if the manager can obtain funding from either internal or external capital (but not both), the firm may exclude highly profitable investment projects but fund those projects that have moderate capital productivity, even when there is no limit on capital allocation. Furthermore, the firm may voluntarily impose capital rationing in order to keep the projects within the firm, even though it has sufficient capital to fund such profitable projects. However, if the firm can utilize both the internal and external capital, highly profitable projects are always retained and the voluntary capital rationing is not optimal. Our analysis identifies testable empirical predictions on the association between capital budgeting and external capital.

Information risk, stock returns, and asset pricing: Evidence from China

2017 ◽  
Vol 30 (4) ◽  
pp. 379-394 ◽  
Author(s):  
Raheel Safdar ◽  
Chen Yan
Keyword(s):  
Stock Returns ◽  
Factor Model ◽  
Empirical Literature ◽  
Firm Level ◽  
Cross Sectional ◽  
Market Pricing ◽  
Content Type ◽  
Information Risk ◽  
Accruals Quality ◽  
Three Factor

Purpose This study aims to investigate information risk in relation to stock returns of a firm and whether information risk is priced in China. Design/methodology/approach The authors used accruals quality (AQ) as their measure of information risk and performed Fama-Macbeth regressions to investigate association of AQ with future realized stock returns. Moreover, two-stage cross-sectional regression analysis was performed, both at firm level and at portfolio level, to test if the AQ factor is priced in China in addition to existing factors in the Fama French three-factor model. Findings The authors found poor AQ being associated with higher future realized stock returns. Moreover, they found evidence of market pricing of AQ in addition to existing factors in the Fama French three-factor model. Further, subsample analysis revealed that investors value AQ more in non-state owned enterprises than in state owned enterprises. Research limitations/implications The study sample comprises A-shares only and the generalization of the findings is limited by the peculiar institutional and economic setup in China. Originality/value This study contributes to market-based accounting literature by providing further insight into how and if investors value information risk, and it seeks to fill gap in empirical literature by providing evidence from the Chinese capital market.

scholarly journals Heterogeneous Beliefs and Risk-Neutral Skewness

2012 ◽  
Vol 47 (4) ◽  
pp. 851-872 ◽  
Author(s):  
Geoffrey C. Friesen ◽  
Yi Zhang ◽  
Thomas S. Zorn
Keyword(s):  
Factor Analysis ◽  
Latent Variables ◽  
Stock Options ◽  
Systematic Risk ◽  
Heterogeneous Beliefs ◽  
Firm Level ◽  
Cross Sectional ◽  
Skewness Factor ◽  
Risk Neutral ◽  
Using Data

AbstractThis study tests whether belief differences affect the cross-sectional variation of risk-neutral skewness using data on firm-level stock options traded on the Chicago Board Options Exchange from 2003 to 2006. We find that stocks with greater belief differences have more negative skews, even after controlling for systematic risk and other firm-level variables known to affect skewness. Factor analysis identifies latent variables linked to risk and belief differences. The belief factor explains more variation in the risk-neutral skewness than the risk-based factor. Our results suggest that belief differences may be one of the unexplained firm-specific components affecting skewness.

Anecdotal Bias in Capital Allocation Depends on Anecdote Similarity

2021 ◽  
Author(s):  
Shir Dekel ◽  
Micah Goldwater ◽  
Dan Lovallo ◽  
Bruce Burns
Keyword(s):  
Decision Making ◽  
Medical Decision Making ◽  
Statistical Data ◽  
Capital Allocation ◽  
Medical Decision ◽  
Target Problem ◽  
Bias Effect ◽  
Business Decision ◽  
Statistical Measures ◽  
Allocation Decisions

Previous research found that anecdotes are more persuasive than statistical data—the anecdotal bias effect. Separate research found that anecdotes that are similar to a target problem are more influential on decision-making than dissimilar anecdotes. Further, previous investigations on anecdotal bias primarily focused on medical decision-making with very little focus on business decision-making. Therefore, we investigated the effect of anecdote similarity on anecdotal bias in capital allocation decisions. Participants were asked to allocate a hypothetical budget between two business projects. One of the projects (the target project) was clearly superior in terms of the provided statistical measures, but some of the participants also saw a description of a project with a conflicting outcome (the anecdotal project). This anecdotal project was always from the same industry as the target project. The anecdote description, however, either contained substantive connections to the target or not. Further, the anecdote conflicted with the statistical measures because it was either successful (positive anecdote) or unsuccessful (negative anecdote). The results showed that participants’ decisions were influenced by anecdotes only when they believed that they were actually relevant to the target project. Further, they still incorporated the statistical measures into their decision. This was found for both positive and negative anecdotes. Further, participants were given information about the way that the anecdotes were sampled that suggested that the statistical information should have been used in all cases. Participants did not use this information in their decisions and still showed an anecdotal bias effect. Therefore, people seem to appropriately use anecdotes based on their relevance, but do not understand the implications of certain statistical concepts.

scholarly journals Who Bears Interest Rate Risk?

2018 ◽  
Vol 32 (8) ◽  
pp. 2921-2954 ◽  
Author(s):  
Peter Hoffmann ◽  
Sam Langfield ◽  
Federico Pierobon ◽  
Guillaume Vuillemey
Keyword(s):  
Interest Rate ◽  
Interest Rates ◽  
Banking Sector ◽  
Balance Sheet ◽  
Interest Rate Risk ◽  
Cross Sectional ◽  
Net Worth ◽  
Loan Rate ◽  
Rate Risk ◽  
European Banking

Abstract We study the allocation of interest rate risk within the European banking sector using novel data. Banks’ exposure to interest rate risk is small on aggregate, but heterogeneous in the cross-section. Contrary to conventional wisdom, net worth is increasing in interest rates for approximately half of the institutions in our sample. Cross-sectional variation in banks’ exposures is driven by cross-country differences in loan-rate fixation conventions for mortgages. Banks use derivatives to partially hedge on-balance-sheet exposures. Residual exposures imply that changes in interest rates have redistributive effects within the banking sector. Received October 31, 2017; editorial decision August 30, 2018 by Editor Philip Strahan. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

scholarly journals EXPLANATION OF THE BENEFIT OF THE INVESTMENT PROJECT ON THE CASH BASIS / IZRAŽAVANJE KORISTI INVESTICIONOG PROJEKTA NA GOTOVINSKOJ OSNOVI

2019 ◽  
Vol 16 (2) ◽  
Author(s):  
Dijana Kremenović
Keyword(s):  
Growth And Development ◽  
Investment Decision ◽  
Investment Decisions ◽  
Investment Project ◽  
Capital Budgeting ◽  
Investment Activity ◽  
Investment Projects ◽  
Investment Process ◽  
Additional Value ◽  
Cash Basis

Decisions about the choice of investment projects can significantly affect the destiny of the company, its competitive position in the market, market participation, the direction of further technological development, and even the survival of the company. The aim of this paper is, in the conditions of the current economic reality, to point out the significance of the choice of methods of expressing the benefit of an investment project. In this sense, we have explained in detail all currently applicable methods for assessing the viability of investment projects on a cash basis, comparing the good and bad sides of all the methods presented. In this connection, we especially pointed out the importance of the time value of money. The decision to apply the capital budgeting process, certainly, is the decision of the company itself. However, the outcome of investment activity is borne by a wider circle of consumers, which should be a sufficient reason to encourage education and the application of current methods in this area. If you want to realistically look at the investment process and evaluate the justification of an investment project, it is necessary to identify and analyse the effects of exploitation of a particular investment. In order to ensure the realization of the company’s basic strategic goals and thus ensure its growth and development, it is necessary to make decisions in which the company will focus its investment activities on this investment projects whose effects will ensure the highest return on investment. This work deals with the complex issues of making adequate investment decisions using a method for assessing the viability of investment projects on a cash basis. Bearing in mind the significance of investment activity, we can conclude that for the purpose of making a good investment decision, it is necessary to realistically look at the entire investment process and assess the justification of the implementation of the investment project. In this sense, we identify, measure and quantify the overall effects of the realization of a particular investment. Capital budgeting for the purpose of making an investment decision today is a generally accepted concept in developed economies. There is no doubt that there are many disagreements regarding the choice of the methods of assessing the viability of investment investments, and then the selection of criteria within a certain method. However, it is quite certain that the rich experience of developed countries undoubtedly points to the need for capital budgeting, investment project management, with particular emphasis on the use of discounted methods for assessing the viability of investment investment and respecting both economic and non-economic effects. Implicit benefits that the application of capital budgeting brings to the overall growth and development of the company, in terms of reducing uncertainty in making investment decisions, easier ranking of investment projects, exact measurement of expected benefits, transparency of investment activity criteria, attracting investors and ultimately creating additional value and greater degree of realization of strategic company goals.With this work, we pointed out the fact that capital budgeting is crucial in the process of making an investment decision and in that way has influenced enterprises to seriously deal with the choice of the method of estimating the profitability of investment projects that will surely result in additional value for the company.

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