Financial Constraints And Corporate Cash Holdings: An Empirical Analysis Using Firm Level Data

This paper empirically investigates whether the sensitivity of cash to its firm-specific determinants differs across financially constrained and unconstrained firms. We sort out firm-year observations as financially constrained and unconstrained based on the median value of three alternative measures: the firm size, dividend payout ratio, and Whited and Wu (WW) index. In order to mitigate the problem of endogeneity and to take into account the dynamic nature of the panel dataset, we apply the robust two-step system-GMM estimator on unbalanced annual panel dataset covering the period 2001–2013. The results suggest that financially constrained firms (FCFs) decrease their cash holdings with size, leverage, and the payout ratio, while they increase their cash amounts with both the market-to-book value and the cash flow volatility. On the other hand, for financially unconstrained firms (FUCFs), we show that there is a positive relationship between cash holdings and firm size, the payout ratio, and the market-to-book value, while both the cash flow volatility and leverage are negatively related to cash holdings. These asymmetries in the sensitivity of cash to its determinants are robust across all the three measures of financial constraints used in the study.