R&D Dynamics and Corporate Cash

Abstract

Firms in R&D intensive industries hold more cash than firms in R&D non-intensive industries. Potential explanations in the literature for the high cash holdings of R&D intensive firms include R&D adjustment costs, financial frictions, knowledge spillover, innovation uncertainty, market competition, and tax policy. We write down a parsimonious industry equilibrium model of firms which incorporates all of the cited explanations and allows for a horserace between them. We find that R&D adjustment costs have a relatively small effect on cash holdings, while financial frictions, knowledge spillover, and market competition matter if they are shut down. Innovation uncertainty and tax policy have the largest effects on the cash holdings of R&D intensive firms, and these two factors matter at the margin as well as if they are shut down. We finally run some policy experiments to determine the value of cash under various situations.