Abstract
This paper examines the relationship between cash flow and investment under high and low investment opportunities of 167 Pakistani non-financial manufacturing firms listed in the Karachi Stock Exchange during the period 2004-2013. Tobin’s Q is employed to capture the investment opportunities and sales are taken as control variable. A panel regression model is used to investigate the relationship of cash flow, Tobin’s Q and sales on investment. In case of high investment opportunities firms, the relationship of investment and cash flow is positive and significant while under low investment opportunities firms, this relationship is also positive but insignificant. These results indicate that the high opportunities firms rely mostly on internally generated cash flow whereas the low investment opportunities firms prefer to distribute its earnings as dividend.
Highlights
In order to survive and availing better future growth opportunities it is vital to invest presently to generate fruitful financial and cost effective activities
They consider firms with low investment opportunities have more sensitivity of investment and cash flow whereas the high investment opportunities firms face the problem of information asymmetry as well as large level of risk premium.Lang et al (1996) studied that leverage is adversely affected in the growth of those firms which have low investment opportunities and concluded that these firms are not accepted by market due to their low investment
Modigliani and Miller has generated to the birth of a debate in their irrelevance theory regarding the cash flows and external financing could be completely replaced with one another and in their results of the theory to this point, numerous models have been planned to explore the investment behavior in the reaction to the accessibility of cash flows and cost linked with both cash flows and external finances in an unsatisfactory capital marketplace consisting of a variety of resistances similar to, agency issues, information asymmetry etc
Summary
In order to survive and availing better future growth opportunities it is vital to invest presently to generate fruitful financial and cost effective activities. The business future can only be determined through the procedure of creating money for long term basis for smooth functioning of operating, investing and financing activities. According to Miller and Modigliani (1958), the value of firm is independent and does not effect by either it uses internal or external finance due to conventions of capital market free from asymmetric information, no bankruptcy cost, no transaction and taxes costs. The empirical results ofMayer and Majluf (1984) show that investors prefer to reinvest in the business on the basis of cost and the most preferable choice is the use of internal finance due to no cost financing without any barriers and contractual obligations. Investors desire maximum profits from their investment so they look forward for the highest possible returns
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