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How Do Firms Finance Large Cash Flow Requirements

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  • Zhangkai Huang
  • Colin Mayer
  • Oren Sussman

Abstract

How do firms finance large cash flow requirements? We examine this in the context of firms that are subject to substantial cash flow requirements. We find that trade credit, inventory and cash stock reductions are all important in the short term for mild requirements. Larger and longer cash flow shortages give rise to more equity than debt finance. After the shocks, firms gradually adjust their leverage back to pre-shock levels by retiring debt and issuing equity. Financing patterns during a shock are consistent with a pecking-order theory of finance, whereas the adjustment afterwards is consistent with a trade-off theory.

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Paper provided by Oxford Financial Research Centre in its series OFRC Working Papers Series with number 2008fe06.

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Length: 32
Date of creation: 2008
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Handle: RePEc:sbs:wpsefe:2008fe06

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Keywords: Cash flow shocks; equity issues; trade-off theory; pecking-order theory.;

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