Managerial Flexibility, Uncertainty, and Corporate Investment: The Real Options Effect

Abstract

This study examines how uncertainty affects corporate capital investment and how managerial flexibility influences this effect. Our evidence is consistent with the prediction of real options theory on investment. Specifically, we find that firms that face more uncertain future environment generally reduce their current investment expenditures after controlling for investment opportunities and fund availability. We refer this phenomenon as the real options effect on corporate investment. Furthermore, our evidence shows that the real options effect is stronger for firms with greater managerial flexibility. That is, the real options effect is more pronounced for firms with fewer financing constraints, larger size, and greater investment opportunities.