IDEAS home Printed from https://ideas.repec.org/a/bla/joares/v52y2014i3p599-634.html
   My bibliography  Save this article

Changes in Cash: Persistence and Pricing Implications

Author

Listed:
  • JEFF ZEYUN CHEN
  • PHILIP B. SHANE

Abstract

This paper decomposes the cash component of earnings and analyzes persistence characteristics and pricing implications of various subcomponents, with particular attention to changes in cash. Changes in underlying fundamentals might dictate changes in cash to new optimal levels. Alternatively, suboptimal changes in cash might result from agency costs allowing managers’ actions to diverge from the best interests of shareholders. We predict and find that both suboptimal increases and decreases in cash bode poorly for future earnings. In fact, we find that suboptimal increases (decreases) in cash have less (greater) persistence than any of the earnings components we study, including accruals and net distributions to both shareholders and debt holders. Market efficiency tests indicate that the market severely punishes firms with suboptimal decreases in cash, but we find no evidence to support the hubris hypothesis that the market overreacts to the earnings implications of unwarranted increases in cash.

Suggested Citation

  • Jeff Zeyun Chen & Philip B. Shane, 2014. "Changes in Cash: Persistence and Pricing Implications," Journal of Accounting Research, Wiley Blackwell, vol. 52(3), pages 599-634, June.
    • Handle: RePEc:bla:joares:v:52:y:2014:i:3:p:599-634
    DOI: 10.1111/1475-679X.12050
    as

    Download full text from publisher

    File URL: https://doi.org/10.1111/1475-679X.12050
    Download Restriction: no
    File URL: https://libkey.io/10.1111/1475-679X.12050?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    References listed on IDEAS

    as
    1. Merton H. Miller & Daniel Orr, 1966. "A Model of the Demand for Money by Firms," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 80(3), pages 413-435.
    2. Derek K. Oler & Marc P. Picconi, 2014. "Implications of Insufficient and Excess Cash for Future Performance," Contemporary Accounting Research, John Wiley & Sons, vol. 31(1), pages 253-283, March.
    3. Thomas W. Bates & Kathleen M. Kahle & René M. Stulz, 2009. "Why Do U.S. Firms Hold So Much More Cash than They Used To?," Journal of Finance, American Finance Association, vol. 64(5), pages 1985-2021, October.
    4. Frederic S. Mishkin, 1983. "A Rational Expectations Approach to Macroeconometrics: Testing Policy Ineffectiveness and Efficient-Markets Models," NBER Books, National Bureau of Economic Research, Inc, number mish83-1, March.
    5. Roychowdhury, Sugata, 2006. "Earnings management through real activities manipulation," Journal of Accounting and Economics, Elsevier, vol. 42(3), pages 335-370, December.
    6. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
    7. Acharya, Viral V. & Almeida, Heitor & Campello, Murillo, 2007. "Is cash negative debt? A hedging perspective on corporate financial policies," Journal of Financial Intermediation, Elsevier, vol. 16(4), pages 515-554, October.
    8. Frésard, Laurent & Salva, Carolina, 2010. "The value of excess cash and corporate governance: Evidence from US cross-listings," Journal of Financial Economics, Elsevier, vol. 98(2), pages 359-384, November.
    9. Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October.
    10. Ran Duchin, 2010. "Cash Holdings and Corporate Diversification," Journal of Finance, American Finance Association, vol. 65(3), pages 955-992, June.
    11. Han, Seungjin & Qiu, Jiaping, 2007. "Corporate precautionary cash holdings," Journal of Corporate Finance, Elsevier, vol. 13(1), pages 43-57, March.
    12. Jarrad Harford & Sattar A. Mansi & William F. Maxwell, 2012. "Corporate Governance and Firm Cash Holdings in the U.S," Springer Books, in: Sabri Boubaker & Bang Dang Nguyen & Duc Khuong Nguyen (ed.), Corporate Governance, edition 127, pages 107-138, Springer.
    13. Dechow, Patricia M., 1994. "Accounting earnings and cash flows as measures of firm performance : The role of accounting accruals," Journal of Accounting and Economics, Elsevier, vol. 18(1), pages 3-42, July.
    14. Patricia M. Dechow & Scott A. Richardson & Richard G. Sloan, 2008. "The Persistence and Pricing of the Cash Component of Earnings," Journal of Accounting Research, Wiley Blackwell, vol. 46(3), pages 537-566, June.
    15. Fritz Foley, C. & Hartzell, Jay C. & Titman, Sheridan & Twite, Garry, 2007. "Why do firms hold so much cash? A tax-based explanation," Journal of Financial Economics, Elsevier, vol. 86(3), pages 579-607, December.
    16. Laurent Fresard & Carolina Salva, 2010. "The value of excess cash and corporate governance: evidence from U.S. cross-listings," Post-Print hal-00537080, HAL.
    17. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-329, May.
    18. Laurent Fresard, 2010. "Financial Strength and Product Market Behavior: The Real Effects of Corporate Cash Holdings," Journal of Finance, American Finance Association, vol. 65(3), pages 1097-1122, June.
    19. Katherine A. Gunny, 2010. "The Relation Between Earnings Management Using Real Activities Manipulation and Future Performance: Evidence from Meeting Earnings Benchmarks," Contemporary Accounting Research, John Wiley & Sons, vol. 27(3), pages 855-888, September.
    20. Fama, Eugene F & MacBeth, James D, 1973. "Risk, Return, and Equilibrium: Empirical Tests," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 607-636, May-June.
    21. Kim, Chang-Soo & Mauer, David C. & Sherman, Ann E., 1998. "The Determinants of Corporate Liquidity: Theory and Evidence," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 33(3), pages 335-359, September.
    22. Dittmar, Amy & Mahrt-Smith, Jan, 2007. "Corporate governance and the value of cash holdings," Journal of Financial Economics, Elsevier, vol. 83(3), pages 599-634, March.
    23. Laurent Fresard, 2010. "Financial Strength and Product Market Behavior: The Real Effects of Corporate Cash Holdings," Post-Print hal-00537081, HAL.
    24. Frederic S. Mishkin, 1983. "Introduction to "A Rational Expectations Approach to Macroeconometrics: Testing Policy Ineffectiveness and Efficient-Markets Models"," NBER Chapters, in: A Rational Expectations Approach to Macroeconometrics: Testing Policy Ineffectiveness and Efficient-Markets Models, pages 1-6, National Bureau of Economic Research, Inc.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Artikis, Panagiotis G. & Papanastasopoulos, Georgios A., 2016. "Implications of the cash component of earnings for earnings persistence and stock returns," The British Accounting Review, Elsevier, vol. 48(2), pages 117-133.
    2. Dana Hollie & Philip B. Shane & Qiuhong Zhao & Steven Cahan, 2017. "The role of financial analysts in stock market efficiency with respect to annual earnings and its cash and accrual components," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 57(1), pages 199-237, March.
    3. Vassilios‐Christos Naoum & Georgios A. Papanastasopoulos, 2021. "The implications of cash flows for future earnings and stock returns within profit and loss firms," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 26(2), pages 2927-2945, April.
    4. Wei Chen & Paul Hribar & Samuel Melessa, 2018. "Incorrect Inferences When Using Residuals as Dependent Variables," Journal of Accounting Research, Wiley Blackwell, vol. 56(3), pages 751-796, June.
    5. He, Shuoyuan & Narayanamoorthy, Ganapathi (Gans), 2020. "Earnings acceleration and stock returns," Journal of Accounting and Economics, Elsevier, vol. 69(1).
    6. Cheung, Yan-Leung & Rau, P. Raghavendra & Stouraitis, Aris & Tan, Weiqiang, 2021. "Does the market understand the ex ante risk of expropriation by controlling shareholders?," Journal of Corporate Finance, Elsevier, vol. 68(C).
    7. Greiner, Adam J., 2017. "An examination of real activities management and corporate cash holdings," Advances in accounting, Elsevier, vol. 39(C), pages 79-90.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Gao, Ning & Mohamed, Abdulkadir, 2018. "Cash-rich acquirers do not always make bad acquisitions: New evidence," Journal of Corporate Finance, Elsevier, vol. 50(C), pages 243-264.
    2. Hsuan-Chu Lin & She-Chih Chiu, 2017. "Tradeoff on corporate cash holdings: a theoretical and empirical analysis," Review of Quantitative Finance and Accounting, Springer, vol. 49(3), pages 727-763, October.
    3. Jan Felix Weidemann, 2018. "A state-of-the-art review of corporate cash holding research," Journal of Business Economics, Springer, vol. 88(6), pages 765-797, August.
    4. Canil, Jean & Karpavičius, Sigitas, 2022. "Managerial risk-taking incentives and cash holding in U.S. firms: Evidence from FAS 123R," International Review of Economics & Finance, Elsevier, vol. 78(C), pages 605-628.
    5. Amess, Kevin & Banerji, Sanjay & Lampousis, Athanasios, 2015. "Corporate cash holdings: Causes and consequences," International Review of Financial Analysis, Elsevier, vol. 42(C), pages 421-433.
    6. Adão, Bernardino & Silva, André C., 2020. "The effect of firm cash holdings on monetary policy," European Economic Review, Elsevier, vol. 128(C).
    7. Ahrends, Meike & Drobetz, Wolfgang & Puhan, Tatjana Xenia, 2018. "Cyclicality of growth opportunities and the value of cash holdings," Journal of Financial Stability, Elsevier, vol. 37(C), pages 74-96.
    8. Efstathios Magerakis & Konstantinos Gkillas & Athanasios Tsagkanos & Costas Siriopoulos, 2020. "Firm Size Does Matter: New Evidence on the Determinants of Cash Holdings," JRFM, MDPI, vol. 13(8), pages 1-35, July.
    9. Chen, Yangyang & Dou, Paul Y. & Rhee, S. Ghon & Truong, Cameron & Veeraraghavan, Madhu, 2015. "National culture and corporate cash holdings around the world," Journal of Banking & Finance, Elsevier, vol. 50(C), pages 1-18.
    10. Heitor Almeida & Murillo Campello & Igor Cunha & Michael S. Weisbach, 2014. "Corporate Liquidity Management: A Conceptual Framework and Survey," Annual Review of Financial Economics, Annual Reviews, vol. 6(1), pages 135-162, December.
    11. Chang, Ching-Hung & Chen, Sheng-Syan & Chen, Yan-Shing & Peng, Shu-Cing, 2019. "Commitment to build trust by socially responsible firms: Evidence from cash holdings," Journal of Corporate Finance, Elsevier, vol. 56(C), pages 364-387.
    12. Gao, Ning, 2015. "The motives of cash reserve and bidder cash reserve effects," International Review of Financial Analysis, Elsevier, vol. 37(C), pages 73-88.
    13. Abdul Rashid & Maryam Ashfaq, 2017. "Financial Constraints And Corporate Cash Holdings: An Empirical Analysis Using Firm Level Data," Annals of Financial Economics (AFE), World Scientific Publishing Co. Pte. Ltd., vol. 12(02), pages 1-26, June.
    14. Cui, Di & Ding, Mingfa & Han, Yikai & Suardi, Sandy, 2022. "Foreign shareholders, relative foreign policy uncertainty and corporate cash holdings," International Review of Financial Analysis, Elsevier, vol. 84(C).
    15. Alomran, Abdulaziz Ahmed & Alsubaiei, Bader Jawid, 2022. "Oil price uncertainty and corporate cash holdings: Global evidence," International Review of Financial Analysis, Elsevier, vol. 81(C).
    16. Chang, Che-Chia & Kao, Li-Han & Chen, Hsin-Yu, 2018. "How does real earnings management affect the value of cash holdings? Comparisons between information and agency perspectives," Pacific-Basin Finance Journal, Elsevier, vol. 51(C), pages 47-64.
    17. Maurizio Rocca & Raffaele Staglianò & Tiziana Rocca & Alfio Cariola & Ekaterina Skatova, 2019. "Cash holdings and SME performance in Europe: the role of firm-specific and macroeconomic moderators," Small Business Economics, Springer, vol. 53(4), pages 1051-1078, December.
    18. Bigelli, Marco & Sánchez-Vidal, Javier, 2012. "Cash holdings in private firms," Journal of Banking & Finance, Elsevier, vol. 36(1), pages 26-35.
    19. Cheung, Adrian (Wai Kong), 2016. "Corporate social responsibility and corporate cash holdings," Journal of Corporate Finance, Elsevier, vol. 37(C), pages 412-430.
    20. Huang, Ying & Elkinawy, Susan & Jain, Pankaj K., 2013. "Investor protection and cash holdings: Evidence from US cross-listing," Journal of Banking & Finance, Elsevier, vol. 37(3), pages 937-951.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:bla:joares:v:52:y:2014:i:3:p:599-634. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Wiley Content Delivery (email available below). General contact details of provider: http://www.blackwellpublishing.com/journal.asp?ref=0021-8456 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.