Free Cash Flow Agency Problem Research Articles

MASALAH KEAGENAN ALIRAN KAS BEBAS, MANAJEMEN LABA DAN RELEVANSI NILAI INFORMASI AKUNTANSI

Free cash flow agency problem causes potential conflict of interest between managers and shareholders. Managers of firms with high free cash flow and of low growth opportunity tend to invest in marginal or even negative NPV project and use earnings management to camouflage the effects of non-wealth-maximizing investments. As a result, it is predicted that investors will react to earnings management and free cash flow agency problem and therefore reflected in stock price. In this sense, earnings management and free cash flow agency problem is predicted to have an impact on value relevance of accounting information.The objective of this study is to assess the impact of earnings management on value relevance of earnings and book value. This study also investigates the different effect of earnings management on value relevance of earnings and book value between free cash flow agency problem firms and non free cash flow agency problem firms. Result shows that earnings and book value are value relevance and earnings management decreases those value relevances. The result also conclude that the negative effect of earnings management on value relevance of earnings and book value is higher for free cash flow agency problem firms compared to non free cash flow agency problem firms.

MASALAH KEAGENAN ALIRAN KAS BEBAS, MANAJEMEN LABA DAN RELEVANSI NILAI INFORMASI AKUNTANSI

Free cash flow agency problem causes potential conflict of interest between managers and shareholders. Managers of firms with high free cash flow and of low growth opportunity tend to invest in marginal or even negative NPV project and use earnings management to camouflage the effects of non-wealth-maximizing investments. As a result, it is predicted that investors will react to earnings management and free cash flow agency problem and therefore reflected in stock price. In this sense, earnings management and free cash flow agency problem is predicted to have an impact on value relevance of accounting information.The objective of this study is to assess the impact of earnings management on value relevance of earnings and book value. This study also investigates the different effect of earnings management on value relevance of earnings and book value between free cash flow agency problem firms and non free cash flow agency problem firms. Result shows that earnings and book value are value relevance and earnings management decreases those value relevances. The result also conclude that the negative effect of earnings management on value relevance of earnings and book value is higher for free cash flow agency problem firms compared to non free cash flow agency problem firms.

Agency cost of type I and accounting numbers in Australia and India

This paper has as objective to assess the agency cost of type I on the value relevance of accounting numbers (earnings and book value) for all listed firms in the manufacturing, retailing and service industries in Australia and India from 2005 to 2012 using the modified version of the Ohlson’ model in Faud and Mohd, (2008) where price is express as a linear function of earnings, book value and various accounting numbers. As predicted, the results show that both earnings and book value are value relevance for the manufacturing, retailing and servicing industry in Australia and India. The presence of the free cash flow agency problem caused the value relevance of earnings and book value to decline in Australia and India. However, the effect is not stable across the difference industries. The results show that in the manufacturing industry, the effect caused by the free cash flow agency problem is relatively higher for Australia and India than in the retail and service industries. As a result, the firms in the manufacturing with free cash flow agency problem have lower earnings (book value) coefficients than those without free cash flow agency problem

Board diversity and corporate payout policy: Do free cash flow and ownership concentration matter?

This study investigates the effect of board diversity in terms of gender and ethnicity on dividend payout policy when a firm has free cash flow agency problem. It also tests whether the probability of diverse boards would minimize free cash flow agency problem through making large dividend payments is more pronounced in firms with high ownership concentration. We find that our results differ based on how corporate dividend policy is measured, and vary by the level of free cash flows and ownership concentration. More specifically, we find that women’s (Malays’) presence on boards has positive impact on dividend yield (dividend payout), and this effect conditional on the level of free cash flows generated by firms. Our results also show that the role of female and Malay directors in forcing controlling shareholders of firms with substantial free cash flows to cash out the firms’ resources through making higher dividend payments is more prominent when the firms’ ownership structure is concentrated in the hand of largest shareholders. The findings of our study, to some extent, support the government calls for increasing the number of women participation on corporate boardrooms and the participation of Malays in corporate sector.

Effect of Free Cash Flow Agency Problem on Ohlson Model's in Firm Life-Cycle Framework: Evidence from Tehran Stock Exchange (TSE)

The main objective of this study was to the effect of free cash flow agency problem on Ohlson model's in firm Life-Cycle Framework. Free cash flow agency problems are effective in the valuation of the firm by influencing the earning reliability, which also affects the book value per share indirectly. In this study we review the effects of free cash flow agency problems on the value relevance of earning per share and the book value per share stock price. Hypotheses once for all firms and once with the consideration of the life cycle are also studied. According to the considered situations for selecting the samples, 107 firms were chosen during the period of 2005 to 2013. The several statistical tools have been used in this research. Firstly, multi regressions were used for testing the study hypotheses. Lastly, Adjusted-R2 and Test Z-Wong was used to for the study variables. First, the descriptive statistical tools for the main variables are shown; then the main statistical problems in these regression models are discussed; and lastly the regression models statistical results are provided. Research findings indicate that earning per share has a significant and positive relationship with book value per share stock price, and free cash flow agency problems will result in the reduction of the relevance of earning per share and book value per share stock price. The results are now in various stages of the life cycle (growth, maturity and decline) has been confirmed. The results are firm in various stages of the life cycle are significantly different from each other. Also in stages of decline, the highest agency problems hold to maturity and growth. Free cash flow agency problems will result in the reduction of the relevance of earning per share and book value per share stock price.

Impact of Free Cash Flow Agency Problem on Ohlson Price model: Evidence from Tehran Stock Exchange (TSE)

In this study we review the effects of free cash flow agency problems on the value relevance of earning per share and the book value per share stock price. According to the considered situations for selecting the samples, 107 firms were chosen during the period of 2004 to 2012. For testing the hypotheses, multiple regression analysis was used. Research findings indicate that earning per share has a significant and positive relationship with book value per share stock price, and free cash flow agency problems will result in the reduction of the relevance of earning per share and book value per share stock price. Also the results showed that the relative information content of earnings per share more than the book value in related to described and predicted company's value and stock price.

An investigation into the effect of surplus free cash flow, corporate governance and firm size on earnings predictability

Purpose – Existing studies on corporate governance mainly focus on how a strong governance system enhances the valuation of firms with cash holding or free cash flow agency problem. The aims of this paper are threefold. First, it investigates the impact of surplus free cash flows (SFCF) on earnings predictability. Second, it investigates whether corporate governance variables moderate the negative impact of SFCF on earnings predictability. Finally, this study examines whether the ability of corporate governance to mitigate SFCF and improve the predictive value of earnings varies between large and small firms. Design/methodology/approach – This paper uses heteroskedasticity-corrected least square regressions upon a sample of Malaysian listed firms. Findings – This paper finds that firms with high SFCF experience less earnings predictability. It also indicates that earnings of firms with high SFCF are more predictable when institutional investors hold a large stake of shares and when a chairperson is independent. Finally, this paper reveals that the role of institutional and managerial ownership in mitigating agency conflict of free cash flow and improving earnings predictability is more prominent in larger firms. This study implies that investors still have reservations about the ability of boards to enhance earnings numbers in Malaysia, although efforts were taken to reform the corporate governance mechanisms following the Asian financial crisis. Originality/value – This research is considered as the first attempt to examine the relationships between SFCF, corporate governance, firm size, and earnings predictability in a developing county such as Malaysia. The findings of this paper serve as a wake-up call to policy makers to evaluate the importance of governance structure in enhancing earnings predictability in emerging economies.

Ownership concentration, free cash flow agency problem and future firm performance: New Zealand evidence

This study seeks to empirically examine the effect of ownership concentration on mitigating free cash flow agency problem in New Zealand. Following Jensen’s (1986) argument that managers have incentives to misuse free cash flows, this study tests whether concentrated ownership structure helps alleviate such a problem or exacerbates it. A natural consequence of this agency problem will be overinvestment and other operational inefficiencies which are likely to have a detrimental impact on firms’ future performance. The second objective of this paper is to examine the association between FCFAP conditional on ownership concentration on future firm performance. We measure free cash flow agency problem as the product of positive free cash flows and growth opportunities proxied by Tobin’s Q and find that financial institution-controlled ownership structure in New Zealand is positively associated with free cash flow agency problem. We also document that free cash flow agency problem conditional on ownership concentration negatively affects future firm performance.

Are Debt and Incentive Compensation Substitutes in Controlling the Free Cash Flow Agency Problem?

This paper investigates the governance implications of a firm's capital structure and managerial incentive compensation in controlling the free cash flow agency problem. The results suggest: debt and executive stock options act as substitutes in attenuating a firm's free cash flow problem; failure to incorporate the substitutability and endogeneity leads to underestimates of the magnitude and economic implication of the disciplinary role of both mechanisms; firm characteristics differ across the prevalence of debt usage versus option usage, suggesting the heterogeneity in the costs and benefits of the monitoring devices; and all the above effects are more pronounced in firms that tend to have more severe agency problem.

The Effect of Free Cash Flow Agency Problem on the Value Relevance of Earnings and Book Value

Prior research identifies free cash flow (FCF) as one source of agency problems between managers and shareholders. Managers of firms with high FCF and of low growth opportunity tend to invest in marginal or even negative NPV project and use income increasing discretionary accruals to camouflage the effects of non‐wealth‐maximizing investments. Therefore, the objective of this study is to assess the value relevance of earnings and book value and the effect of agency problem caused by FCF, on the value relevance of earnings and book value. As predicted, results show that earnings and book value are value relevant and agency problem caused by FCF, reduces the value relevance of earnings and book value. However, the effect is not stable across sample years Firms with FCF agency problem do not have lower earnings (book value) coefficient than other firms in year 2002 (2004). Investigation into specific event that may have driven the difference in result is subject to further research.

Are Debt and Incentive Compensation Substitutes in Controlling the Free Cash Flow Agency Problem?

This paper investigates the governance implications of a firm's capital structure and managerial incentive compensation and the substitutability of these two mechanisms in controlling the free cash flow agency problem. The study is designed to explore the different ways that debt and incentives work on the agency problem. Debt directly restricts the investment scale while incentive compensation makes investment less sensitive to free cash flow. The substitutability of debt and incentive compensation and the potential endogeneity of investment, capital structure and compensation are examined by estimating a nonlinear simultaneous equations system. The results suggest: (1) Debt and executive stock options act as substitutes in attenuating a firm's free cash flow problem, which provides a partial answer to the puzzle as to why some firms predominantly grant options but issue little debt despite their excess debt capacity. (2) Failure to incorporate the substitutability and endogeneity of capital structure and incentive compensation leads to underestimates of the magnitude and economic implication of their capital structure and compensation structure to control for overinvestment. (4) Firm characteristics differ across the prevalence of debt usage versus option usage, suggesting the heterogeneity in the costs and benefits of the monitoring devices. (5) All the above effects are more prominent in firms that tend to have more severe free cash flow problems.

FCF agency costs, earnings management, and investor monitoring

Free cash flow has been identified as having the potential to be a major agency cost where managers make expenditures that have negative NPVs. This agency problem reduces profitability and lowers stock market valuations. We argue that firms with high free cash flow and poor growth opportunities will suffer from the free cash flow agency problem. Our results are consistent with expectations and show that firms with high free cash flow and low growth are associated with low long term profitability. We also find that managers use income-decreasing accruals when a firm has high free cash flow agency costs. This earnings management is motivated by managers’ desire to shift profits to future years when the full impact of the sub-optimum investments hits earnings. The evidence supports Fudenberg and Tirole’s (1995) managerial self-interest hypothesis. Consistent with the institutional investor monitoring hypothesis, we show that institutional shareholders act to deter managers from using negative discretionary accruals when free cash flow agency costs are potentially high.