Internal Liquidity Research Articles

The Marginal Value of Cash: Corporate Savings, Investment, and Financing

The fact that internal liquidity is a key source of corporate funding puts the marginal value of cash at the center of a variety of firm decisions, including investment, payout, financing, savings, and risk management policies. The marginal value of cash is inherently a dynamic concept, because a firm facing financing frictions has to be forward-looking, managing its asset and liability structures in a unified framework and carefully trading off the use of liquidity across time and states. We present a dynamic framework for corporate liquidity management and survey the related literature, with a focus on the determinants of the marginal value of cash and its ubiquitous role in firm decisions.

Internal control and stock liquidity

This paper examines the correlation between corporate internal control and stock liquidity by utilizing data from China's A-share listed companies spanning the period from 2012 to 2022. It is observed that a higher quality of internal control positively signals to the capital market, thereby enhancing the stock liquidity of the enterprise. Furthermore, compared to state-owned enterprises, earnings quality serves as a partial intermediary in the process where internal control influences stock liquidity. However, for non-state-owned enterprises, the improvement in the quality of internal control is more notably effective in augmenting stock liquidity.

Internationalization and financial constraints: Opportunities, obstacles, and strategies

This study delves into the relationship between financial constraints and internationalization, investigating the role and extent of variability in access to the capital market in shaping internationalization strategic choices. In detail, focusing on the Italian manufacturing industry between 2013 and 2019, we examine this relation disentangling the effect between export and import dynamics. Initially, we run various OLS regression models to investigate the profile of exporting/importing firms, providing a preliminary picture of the internationalization process of the Italian manufacturing industry. Then, we run several GMM regression models to highlight these dynamics over time and to collect robust evidence for our hypotheses. According to the results, we observe that firms under high financial constraints have the lowest intensity of import and export flows (i), firms under moderate financial constraints have the highest intensity of export flows (ii), and firms under low financial constraints have the highest intensity of import flows (iii). An interpretation of these results concerns the heterogeneity of business-to-business payment dynamics across the EU global value chain, with the Italian market characterized by the longest delay. Hence, internationalization through export flows represents an opportunity for those companies with the most aggressive business strategies, quickly raising their internal liquidity, and complementing local financial debts with international trade credits. On the other hand, only firms with no restrictions to the capital market can afford prompt payments of foreign suppliers, easily collecting the necessary liquidity to support import flows.

Impact of specific liquidity shocks on the bank's solvency

PurposeThis study aims to demonstrate and measure the impact of liquidity shocks on a bank’s solvency, especially when the bank does not hold sufficient liquid assets.Design/methodology/approachThe proposed model is an extension of Merton’s (1974) model. It assesses the bank’s probability of default over one or two (short) periods relative to liquidity shocks. The shock scenarios are materialised by different net demands for the withdrawal of funds (NDWF) and may lead the bank to sell illiquid assets at a depreciated value. We consider the possibility of second-round effects at the beginning of the second period by introducing the probability of their occurrence. This probability depends on the proportion of illiquid assets put up for sale following the initial shock in different dependency scenarios.FindingsWe observe a positive relationship between the initial NDWF and the bank’s probability of default (particularly over the second period, which is conditional on the second-round effects). However, this relationship is not linear, and a significant proportion of liquid assets makes it possible to attenuate or even eliminate the effects of shock scenarios on bank solvency.Practical implicationsThe proposed model enables banks to determine the necessary level of liquid assets, allowing them to resist (i.e. remain solvent) different liquidity shock scenarios for both periods (including eventual second-round effects) under the assumptions considered. Therefore, it can contribute to complementing or improving current internal liquidity adequacy assessment processes (ILAAPs).Originality/valueThe proposed microprudential approach consists of measuring the impact of liquidity risk on a bank’s solvency, complementing the current prudential framework in which these two topics are treated separately. It also complements the existing literature, in which the impact of liquidity risk on solvency risk has not been sufficiently studied. Finally, our model allows banks to manage liquidity using a solvency approach.

Testing dividend tax theory: Firm and industry heterogeneity

The Jobs Growth and Tax Relief Reconciliation Act of 2003 cut the top dividend tax rate in the U.S. by more than half, yet numerous studies of nonfinancial firms have failed to detect the expected supply-side stimulus to capital investment. We test the impact of this tax cut on U.S. commercial banks and find that bank lending responded differently, conditional on banks’ access to external capital as well as their reliance on internal liquidity. Our heterogeneous results include support for all three branches of dividend tax theory. Loan growth increased the most at publicly traded banks with relatively illiquid balance sheets and increased by the least (or not at all) at untraded banks with relatively liquid balance sheets. Consistent with previous studies, we find increased dividend payouts at all subsets of banks. We conjecture that the effectively short maturities of bank loan contracts made banks better able to respond positively to this tax cut and provide some suggestive evidence in support of this conjecture.

Lines of Credit and Family Firms: The Case of an Emerging Market

Lines of credit constitute an integral part of a firm’s liquidity policy; however, there is limited research on lines of credit in emerging markets. This study fills this gap by examining firm incentives to access and draw from lines of credit using the context of Jordan, a bank-based emerging market, focusing on the impact of family firms. To account for the endogeneity of family control, this study estimates the probability of accessing a line of credit using seemingly unrelated bivariate probit regression and its usage using treatment effect regression. The article documents that family firms are less likely to obtain a line of credit and their drawdowns are smaller compared to non-family firms. These findings support the agency’s view on having and using lines of credit. Other findings are consistent with a substitution effect between internal and external liquidity sources which implies a cost wedge between the two sources of liquidity.

SMEs’ behavior under financial constraints: An empirical investigation on the legal environment and the substitution effect with tax arrears

Considering the Italian legal environment, this work aims to shed new light on the behavior of SMEs under financial constraints, investigating how the inefficiency of courts in enforcing credit rights can affect their corporate finance. On the one hand, our results confirm previous findings on the pecking order theory, supporting the hypothesis of substitution between financial debts and trade credits. On the other hand, based on our evidence, if SMEs are affected by judicial inefficiency, we can expect their access to both the capital market and trade credit to be limited by the uncertainty of the legal environment, causing them to use tax arrears to raise internal liquidity. Indeed, if the time needed to settle insolvency cases decreases by 20%, we can expect an increase in the financial debt ratio between 1.07% and 3.87% and in the trade credit ratio between 0.14% and 1.35%, while, focusing on tax arrears, we can expect a decrease in the tax debt ratio between 0.78% and 1.61%.

The Real and Financial Effects of Internal Liquidity: Evidence From the Tax Cuts and Jobs Act

The Real and Financial Effects of Internal Liquidity: Evidence From the Tax Cuts and Jobs Act

Pirates without borders: The propagation of cyberattacks through firms’ supply chains

This paper examines the supply chain effects of the most damaging cyberattack in history so far. The attack propagated from the directly hit firms to their customers, causing a four-fold amplification of the initial drop in profits. These losses were larger for affected customers with fewer alternative suppliers. Internal liquidity buffers and increased borrowing, mainly through bank credit lines, helped firms navigate the shock. Nonetheless, the cyberattack led to persistent adjustments to the supply chain network, with affected customers terminating trading relations with directly hit firms and forming new ones with alternative suppliers with a stronger cybersecurity posture.

Does mandatory disclosure of firm’s tax avoidance position affect corporate investment efficiency?

This paper examines the effect of a firm’s tax avoidance position disclosure on corporate investment efficiency by utilising an exogenous shock to corporate tax reporting that mandates firms to disclose uncertain tax positions in their financial statements under Financial Interpretation No. 48 (FIN 48). We find that, after FIN 48, firms claiming uncertain tax benefits (i.e. affected firms) experience a significant decrease in investment efficiency relative to firms that do not have uncertain tax positions (i.e. non-affected firms). Our finding suggests that, despite promoting transparency, FIN 48 imposes an unfavourable information revelation effect that reduces investment efficiency for affected firms. In terms of the mechanism, we provide evidence that affected firms experience a larger increase (drop) in cost of capital (external financing) following FIN 48 and rule out an alternative explanation that the decreased investment efficiency may arise from internal liquidity constraints. In cross-sectional analyses, we find the adverse effect to be more pronounced for firms with higher disclosure quality, higher tax uncertainty, and more severe financial constraints. These findings provide insight into the debate on why firms sometimes forgo tax avoidance opportunities by pointing out a potential cost of tax avoidance.

A Theoretical Assessment on the Relationship between Working Capital Investment and Firm's Performance

The concept of financial constraint have a great influence on company decision and capital market entrance as shareholders and directors recognised its negative implication on firm performance. This paper is the first to conceptualize the theoretical influence of financial constraints (FC) on working capital investment (WCI) and corporate performance through firm internal resources and managerial competency by employing a qualitative approach from a theoretical disposition which has been meagerly demonstrated in the literature. Specifically, bearing in mind the rising unpredictability and issues in the credit and capital markets that has been noticed for numbers of years and the similar intensification in regulatory capital about acquiring external financing, the attention of the firm’s gradually shifted to its internal liquidity generated from enterprise operation on the basis of working capital (WC). This study argues that business internal resources through managerial skill and internal capital can to enhance WCI in a financially constrained situation thereby reduces the agency cost and asymmetric information and increases performance. Hence, we conclude that internal funds is suitable to finance WCI in a constrained situation for managers to avoid overinvest or underinvest in working capital asset by controlling for financial constraints. Further review are expected to determine WCI-performance relationship using some vital accounting ratios largely generated from annual reports and accounts.

Intelligent Evaluation and Early Warning of Liquidity Risk of Commercial Banks Based on RNN.

With the downward pressure of China's economy and the impact of the epidemic, the accumulated market risk has increased the liquidity pressure of the banking industry, and the mismatch between deposit maturity and loan maturity is the main cause for the increase of liquidity risk. The twenty-first century is the era of rapid and in-depth development of data management technology. The explosive growth of massive financial data makes the information data related to the liquidity risk of commercial banks present the characteristics of complexity, diversity, and heterogeneity. The traditional risk early warning model cannot deal with the influence between a large number of influencing factors and the nonlinear factors of commercial bank liquidity risk. Based on this transformation, the circular neural network model is introduced into the field of liquidity risk early warning of commercial banks from the perspective of the mismatch risk of financing maturity of commercial banks, and the driving factors and risk warning signs of liquidity risk of commercial banks are further analyzed from the institutional level, policy level, industry level, and micro commercial bank level. This paper uses network crawler technology, text analysis, and grounded analysis technology to intelligently identify the liquidity risk of commercial banks and establishes an early warning index system based on the influencing factors of commercial banks and internal liquidity risk. Also, it constructs an intelligent early warning model of commercial bank liquidity risk based on deep learning and uses the data of commercial banks from 2000 to 2020 for early warning. The results show that the constructed model has high accuracy, which can provide support for banks and relevant government departments to formulate and resolve bank liquidity risk.

Internal Liquidity Determinants Analysis of Commercial Banking Industry of Jordan

The study aims to determine the possible internal factors affecting the liquidity position of the commercial banking industry of Jordan. Several possible determinants are taken into account in the study including, profitability, credit growth rate, customer deposits, financial leverage, capital adequacy, and bank size. The secondary data covering the period 2008-2019, of 13 out of 15 listed banks at Amman Stock Exchange, is gathered and analyzed. In total, 1,092 observations are employed in the analysis to achieve the goals of the study. All hypotheses are tested under 95 level of confidence, which means 5 percent coefficient of significance. Descriptive statistics including the mean, standard deviation, and the minimum and maximum values, in addition to correlations, are employed in the analysis of data. Using correlation and regression methods in hypotheses testing, the study declares that profitability, capital adequacy, and bank size, each of which, has a significant positive impact on bank liquidity. In addition, the study finds that financial leverage and customer deposits have a negative significant effect on bank liquidity. Moreover, the study finds no significant impact of credit growth rate on bank liquidity.

R&D, patents, and financing constraints of the top global innovative firms

Highly innovative firms face unique financing constraints because there is often a greater degree of information asymmetry between firms and potential lenders. Prior literature indicates that patents provide a quality signal to external investors that potentially help mitigate internal liquidity constraints. In this paper, we study the joint impact of firms’ patent stocks and operating profit margin, which acts as a proxy for internal funds, on R&D expenditures in a panel of the top 2000 corporate R&D performers worldwide. We find that patenting activity lessens the impact of negative internal liquidity shocks on innovation for relatively smaller firms. In contrast, patenting activity does not have an attenuating effect for relatively larger firms. The results are consistent for high and medium-high technology firms and are robust to country specific controls.

Does a green-designed fiscal policy optimal firm innovation scheme on volatility? A firm level evidence in the Post-Covid-19 era

Volatility in natural resource commodity prices due to the Covid-19 pandemic has increased production costs and restricted output, imposing a risk for economic growth. In order to promote a green economic recovery, it is imperative that financial and fiscal policy reforms are designed to motivate innovation and growth. Through evaluating the impact of the low energy-consumption tax reduction policy, this paper investigates the motivation and mechanisms of innovation as a recovery strategy. Using the quarterly data of Chinese listed firms during 2019Q1 to 2021Q2, we use Difference-in-Difference as our estimation strategy, and discover several findings. First, innovation is the strategy used for recovery and to gain market power, and the low energy-consumption tax reduction policy can significantly facilitate firms' innovation activities. Second, our findings further show that the low energy-consumption tax reduction policy improves firms' innovation investment through alleviating firms’ financial constraints. Finally, the financial cost and internal liquidity are improved through financing innovation activities. According to the results of this research, we can conclude the main policy implication that an effective green-designed fiscal policy can be part of an optimal firm innovation scheme for recovery in the post-Covid-19 era.

LIQUIDITY MANAGEMENT AND FINANCIAL PERFORMANCE OF LISTED OIL AND GAS COMPANIES IN NIGERIA

The purpose of this paper is to figure out the link between liquidity and profitability, as well as the impact of liquidity on profitability. Ten listed companies with a bigger market share in the oil and gas sector of the Nigerian economy were subjected to a fixed panel regression study. Secondary data was gathered for ten years, from 2011 to 2020, from their published annual reports. Profit after tax (PAT), Return on Asset (ROA), and Return on Equity (ROE) were used to determine profitability (ROE). Internal liquidity variables such as equity, debt, and sales were utilized to determine the behavior of the dependent variable, but external elements such as lending interest rate and exchange rate were employed to further explain profitability behavior. The data were analyzed using a multiple regression approach. The findings reveal that debt has a significant negative impact on companies' profitability. Similarly, equity capital, as well as retained earnings, are more beneficial to firms than the debt financing of the oil and gas sector. The study, therefore, recommends that oil and gas firms should boost their equity capital, improve their revenues, increase their retain earnings, and reduce debt financing to enable them to generate more wealth for shareholders.

Market Risk Prediction under Illiquid Market Environments: A Comparison of Alternative Modeling Techniques

This paper bridges the gap in trading risk management literatures, and particularly from the perspective of emerging and illiquid markets. We find that under certain trading strategies, such as short-selling of stocks, the sensitivity of L-VaR statistics are rather critical to the selected internal asset liquidity model in addition to the degree of correlation factors among trading assets.

Customer and tax behaviour: how customer concentration affect suppliers’ tax avoidance

ABSTRACT This study discusses, from the perspective of the supplier-customer relationship, whether and how firms’ customer concentration affects corporate tax avoidance in the context of China. The results indicate that firms with higher customer concentration are more likely to engage in tax avoidance. Higher customer concentration increases firms’ operational risks, and hence, they tend to conduct more aggressive tax activities to meet the increasing demand for internal liquidity. Additionally, we find that the positive association between corporate customer concentration and tax avoidance is stronger in non-state-owned enterprises. Moreover, when firms face more cash flow volatility, less cash holdings, and a poorer external legal environment, aggressive tax activities induced by concentrated customers are more pronounced. Our findings not only extend the growing literature on the consequences of customer concentration for firms, but also provide new evidence on their motivation for corporate tax avoidance, with significant implications for supply chain management and corporate governance.

The ECB Guide to Internal Liquidity Adequacy: A Principles-Based Approach

The global financial crisis exposed the need for coherence and transparency in bank liquidity management. The problem of asymmetry of information associated with liquidity was particularly acute during the crisis, leading to both adverse selection and moral hazard problems. The inability to refinance in the market eventually required central banks and states to intervene to purchase assets or provide guarantees at the market level and supply public funds, or nationalize individual banks, to correct the market. The European Central Bank Guide to Internal Liquidity Adequacy places significant focus on management’s oversight and responsibilities in addressing these issues before they materialize, or the existence of contingency plans to manage materialized risks. This guide is simply one component of a complex web of supervisory instruments and tools for banks’ liquidity management. This chapter argues that the crisis prevention narrative is delegated to banks to discharge their obligations in bank supervision so as to minimize the asymmetry of information problems created by their business and improve the way they manage adverse scenarios and the risks to depositors, markets, and supervisory authorities. The first part explains the rationale for a principles-based approach; the second part explores the premise of the principles for liquidity management, namely the responsibility of the bank per se to discharge adequate liquidity management as a form of self-regulation; the third part explains some of the key features of the principles; and the fourth part looks at the features of the principles with specific reference to the crisis prevention measures to improve banks’ responses to liquidity risks. This ‘nuts and bolts’ approach surprisingly lacks reference to bank corporate culture as an important all-encompassing matter when it comes to banks and risk-taking. The final section reflects on these preventive elements and highlights the importance of the ECB combining a risk-based and forward-looking ‘judgement’ based approach to supervision.

Relationship finance, informed liquidity, and monetary policy

We study the aggregate effects of credit relationships in an economy where lenders provide liquidity and expertise to firms in distress. Lenders' effort in the restructuring of firms' investments endogenously depends on their financial involvement in investments. Firms trade off the benefits of precautionary internal liquidity with the need to incentivize lenders' restructuring effort through their financial involvement. We find that, through these intensive margin effects, credit relationships can induce overinvestment, calling for a positive interest rate policy that departs from the Friedman rule. Credit relationships, however, can enhance the resilience of investment to economic conditions. Unconventional monetary policies that inject liquidity into the lending sector enhance the stabilizing effects of credit relationships but have ambiguous welfare consequences.