Cash Flow Uncertainty Research Articles

Energy transition policy, cash flow uncertainty and R&D expenditures of energy enterprises

Energy transition policy, cash flow uncertainty and R&D expenditures of energy enterprises

The interplay of cash flow uncertainty and firm life cycle on sustainability disclosure

AbstractThis study investigates the role of cash flow uncertainty and firm life cycle on sustainability disclosures using environmental, social and governance (ESG) disclosure score data. We conduct our analysis on a sample of 190 Indian firms for a period of 12 years from 2010 to 2021. Drawing upon the real‐option theory and organisational‐inertia theory, we document a negative impact of cash flow uncertainty and firm life cycle on a firm's commitment to disclose sustainability information. We also find a significant impact of managerial risk inclination and risk tolerance at the firm level in moderating the above relationships. Our findings can help managers equip themselves to meet the challenges of sustainability commitments during cash flow constraints and firm life‐cycle transitions. Moreover, our results can also help policymakers in assessing the need to enforce sustainability disclosures depending on the hurdles confronted by a firm.

Cash flow uncertainty, ownership structure and corporate real estate holding

ABSTRACT This study examines the relationship between cash flow uncertainty and corporate real estate holdings and investigates the role of ownership structure. Using a dataset of A-share listed companies in China, we find that there is a significantly negative association between cash flow uncertainty and corporate real estate holdings, and this effect is more pronounced for private enterprises (non-SOEs). The results hold firmly after performing various methods to address potential endogeneity and a set of related robustness tests. From the perspective of supply-led and debt cost discrimination, we also demonstrate that state-owned enterprises (SOEs) can benefit from favourable credit discrimination, which mitigates the impact of cash flow uncertainty.

Valuation of Medical Innovation Handling with Uncertainty and Risk.

Background: The purpose of this paper is to address how to handle uncertainty when performing an economic valuation of a medical innovation R&D project in orphan diseases from the perspective of the investor. Methods: We describe the specific uncertainty related to cash flows and the cost of capital for innovation in orphan diseases. The uncertainty in cash flows relates to sales, manufacturing and R&D costs, and probabilities of failure for each phase in the clinical trial program. We consider different net present values (NPVs) and higher standard deviations for orphan drugs compared to non-orphan drugs. Results: Numerical case base examples showed the differences in trade-off by an investor for R&D projects with differences in NPV and level of uncertainty. The investor will transfer the additional uncertainty in cash flows in a higher cost of capital. An alternative approach is the application of an "acceptability curve" based on a probabilistic sensitivity analysis, which displays the cumulative probabilities at a range of different values for the NPV. Finally, we consider uncertainty in the cost of capital itself by applying the Capital Asset Pricing Model (CAPM). Conclusions: In this paper, we described various types of uncertainty and explored various approaches to how to handle uncertainty in the economic valuation of medical innovation in orphan diseases. The bridging of health economics with economic valuation theory in the healthcare market is to our knowledge a novel approach for the valuation of medical innovation by investors.

Investment Timing and Technological Breakthroughs

We study the optimal investment policy of a firm facing both technological and cash-flow uncertainty. At any point in time, the firm can irreversibly invest in a stand-alone technology or wait for a technological breakthrough. Breakthroughs occur when market conditions become favorable enough, exceeding a threshold value that is ex ante unknown to the firm. The Markov state variables for the optimal investment policy are the current market conditions and their historic maximum, and the firm optimally invests in the stand-alone technology only when market conditions deteriorate enough after reaching a maximum. The path-dependent return required for investing in the stand-alone technology is always higher than if no technological breakthroughs could occur and can take arbitrarily large values following certain histories. Decreases in development costs or increases in the value of the new technology make the firm more prone to bearing downside risk and delaying investment in the stand-alone technology. Funding: This research has benefited from financial support of the ANR [Programmes d’Investissements d’Avenir CHESS ANR-17-EURE-0010 and ANITI ANR-19-PI3A-0004] and the research foundation TSE-Partnership [Chaire Marchés des Risques et Création de Valeur, Fondation du Risque/SCOR].

At‐the‐market equity offerings and cash flow shortfalls: Evidence from real estate investment trusts

AbstractThis article examines how access to at‐the‐market (ATM) equity offering programs can help mitigate the adverse effect of temporary cash flow shortfalls on firm performance. Using asset‐level exposure to the spread of COVID‐19 as a proxy for a REIT's sensitivity to a future operational cash flow shock, we find that ATM program access reduces the magnitude of the negative performance effect by nearly 70%. We extend our analysis outside of the pandemic period to provide further evidence of the broader importance of ATM program access as an important source of financial flexibility during more general periods of cash flow uncertainty.

Optimal Cash Management with Payables Finance

Payables finance, also known as reverse factoring or supply chain finance, is a form of trade finance offered by a bank that provides a supplier with the option to receive a buyer’s payables early while allowing the buyer to extend its payment due date. There has been an increasing adoption of payables finance by various industries in recent years. In “Optimal Cash Management with Payables Finance,” X. Yan, L. Chen, and X. Ding characterize the supplier’s optimal cash policy under the payables finance arrangement with a buyer and a bank. The authors show that it is the supplier’s future cash flow uncertainty, together with the supplier’s risk averseness, that drives the cash liquidity value of payables finance. Numerical results of applying the analysis to data sets obtained from a major U.S. chemical company suggest that adopting payables finance can generate considerable value for the company and its suppliers.

How does corporate investment respond to trade policy uncertainty in China? The role of political connections

This paper investigates how political connections affect the relationship between trade policy uncertainty and corporate investment by utilizing Chinese non-financial firm-level data from 2003 to 2022. We find that trade policy uncertainty inhibits corporate investment by decreasing expected cash flows, increasing cash flow uncertainty, and lowering investment returns. Political connections mitigate the adverse impact of trade policy uncertainty on corporate investment by increasing government subsidies, alleviating financing constraints, and improving investment inefficiency for firms. The results are robust to changing variables measurements, alternating econometric model settings, and addressing endogeneity concerns. We also find the adverse impact of trade policy uncertainty on corporate investment is more pronounced for non-state-owned firms and small-sized firms, and the positive role of political connections benefits firms with higher financing constraints, lacking bank-firm relationships, and regions with lower institutional quality. Our findings highlight that optimizing the business environment and strengthening the communication between firms and governments are crucial for coping with unexpected policy uncertainty shocks.

Foreign exchange risk and audit pricing: Evidence from U.S. multinational corporations

Foreign exchange volatility challenges auditors for not only demanding more audit efforts but also imposing heightened audit risk. We first show foreign exchange risks increase cash flow uncertainty and reduce financial reporting quality, supporting our premise that foreign exchange risks increase audit risk. Next, we find audit fees are higher for MNCs with greater exposure to foreign exchange volatility, but not when MNCs use financial hedging against foreign exchange risk. Furthermore, we show that the impact of foreign exchange risk on audit fees is attenuated by auditor MNC expertise, auditor busyness, and MNC’s operation diversity, whereas the impact is exacerbated for companies facing high pressure to avoid missing earnings targets and for auditors with high market concentration. Overall, our study provides novel evidence of the implications of MNCs’ exposure to foreign exchange risk on financial reporting and auditing, thereby enriching our understanding of MNCs.

Accounting for Uncertainty

Abstract In accordance with the theme of the Yuri Ijiri lectures, I focus on something foundational to accounting: the communication of uncertainty through accounting numbers. I do so in the context of providing information to investors about “the amount, timing, and uncertainty of future cash flows”, an objective of accounting standard setters (with emphasis added). I outline accounting principles that convey uncertainty and discuss the implications for a financial statement analysis that extracts information about uncertainty. I also show how accounting-based valuation is modified to incorporate that information. Asset pricing in finance deals with risk and uses accounting numbers to do so. I explain how that endeavor might be improved by recognizing the accounting for uncertainty. That puts accounting and finance on the same platform. Finally, I address normative issues of accounting policy for conveying information about the uncertainty of future cash flows.

Clear the air via dividends: Corporates' response to air pollution

AbstractBased on China A‐share listed firms, we investigate how firms respond to air pollution using the dividend payout policy. We highlight the signaling role of dividends, documenting that firms pay higher dividends to appease and attract investors when facing more severe pollution. This effect is more pronounced when investor attention is high and less salient if shareholder governance is strong, reinforcing the signaling hypothesis and substitute model of dividend theory. Our results reject the hypothesis that air pollution decreases dividend payouts by enlarging a firm's financial constraints and cash flow uncertainty.

Prepayment and Default Risks of Mortgage-Backed Security Collateral Pools

Mortgage-backed securities (MBS) are structured financial products that are produced via securitization of mortgage loans. Due to the nature of securitization, all risks of mortgage loans are transferred from originators to MBS investors. Prepayment and default risks of mortgages lead to uncertainty in MBS cash flows and create a complex problem for valuation of these instruments. Therefore, estimating these mortgage termination risks has become the focus of valuation of MBS collateral pools. This study explores two questions by using a publicly open dataset provided by Fannie Mae. First, two machine learning algorithms (Random Forest and Multinomial Logit Regression) are used for classification to predict whether a mortgage loan is likely to be prepaid, defaulted or current. Afterwards, Competing Risks Cox Regression Analysis is performed to see determinants of when mortgage termination risks are likely to happen. It is found that not all mortgage borrowers behave optimally in their prepayment and default decisions. Therefore, in addition to refinancing incentive and negative equity which depend on variations in prevailing mortgage interest rates and housing prices, heterogeneity in mortgage borrowers’ behaviors and loan characteristics, and also local economic factors are significantly important in estimating mortgage termination risks. It is worth noting that prominence role of mortgage payment delinquencies in particularly predicting defaults emphasizes the essential need of monitoring payments by servicers to keep safety of MBS investors and financial markets.

Case study: The Adjusted Valuation of the High-tech Newly-listed Company in Mainland China

Given the enormous contribution of high-tech startups to social development, a systematic approach to accurately evaluate these companies is significant for venture capital firms, equity investors, and other investors in the market. However, the conventional methods, including the cost and income approaches, cannot fulfill the valuation goal without any development due to the insufficient financial information and future uncertainty of these firms. This paper investigates a new valuation method that combines the beta coefficient adjustment and future cash flow scenario discussion. This newly established method is employed to value one of the most influential newly listed semiconductor firms: Semiconductor Manufacturing International Corporation in mainland China. If this new combination works well for firms under such circumstances, analytics could apply similar ideas to handle the lack of historical data and uncertainty of future cash flows.

Valuating the capital structure under incomplete information

Can higher uncertainty increase the valuation (market-to-book value) of young firms compared to more established ones? As the current market shows higher levels of uncertainty about companies’ expected cash flows and changes in firm value, the question of the fundamental convex relationship between the two becomes more relevant. This paper aims to study how cash flow uncertainty affects the capital structure/leverage of a firm over time. A simple Bayesian learning framework is employed to assess leverage ratios in the presence of parameter uncertainty about expected cash flow. This study provides an analytical solution for leverage as a function of firm age and explores the implications using numerical results. The model links market leverage with expected cash flow volatility and firm age. Young firms face uncertainty about their expected cash flows and hence their firm value. Managers continuously update their evaluation of leverage ratios when they observe realized cash flow until firms reach maturity. Therefore, the paper provides a novel explanation of why the leverage ratio for many start-ups increases over time: the resolution of uncertainty decreases upside shock expectations as the firm ages. This result is useful both for academics, who can test the formulas derived in this paper for various industries, countries, and conditions, and for practitioners, who can use them to calibrate algorithmic trading models when linking uncertainty and firm valuation.

Dispersion in news sentiment and corporate bond returns

We construct a news sentiment index at the firm level by using textual analysis of news articles and find that dispersion in news sentiment is a significant predictor of corporate bond returns. Bonds of firms with high dispersion in news sentiment have a highly significant average return of 7.38 percent. A portfolio that longs bonds with high dispersion in news sentiments and shorts bonds with low dispersion earns an average biweekly return of 8.53 percent. This finding is in line with an argument that dispersion in news sentiment is a proxy for future cash flow uncertainty.

Downside variance premium, firm fundamentals, and expected corporate bond returns

We find a strong and robust positive relationship between individual downside variance premia (DVP)–the difference between risk-neutral and physical expected downside variances–and future corporate bond returns. The spread portfolio that longs the high DVP bond portfolio and shorts the low DVP bond portfolio earns a statistically significant excess return of 0.37% (0.42%) per month in value- (equal-)weighted returns. The alpha estimates from various factor models remain statistically significant and economically substantial. The predictive power of the downside variance premium is stronger in noninvestment-grade (long-maturity) corporate bonds than in investment-grade (short-maturity) bonds. We show that the downside variance premium positively relates to the likelihood of future default and cash flow uncertainty and negatively relates to future cash flows.

The Impact of Gold, Oil Prices, and their Associated Implied Volatilities on Performance of Pakistan’s Stock Market

This study examined the asymmetrical implications of gold and oil prices, as well as the implied volatility that goes along with them, on the performance of Pakistan's stock market. It was used Chicago Board of Options Exchange’s GVZ and OVX index for measuring volatility in gold market and oil market respectively due to more uncertainty in commodity markets and also took historical price movements, investor’s expectations regarding global prices into account. The monthly data used from October 2009 to January 2023. An ARDL approach was employed for checking short term and long term asymmetrical. The results of ARDL revealed that oil volatility index have significant impact of Pakistan’s stock market in short-run and long-run. The Gold Volatility Index shows significant impact after one month on both stock market capitalization and KSE 100 indexes in the short run. Fluctuations in worldwide commodity prices have a significant influence on underdeveloped economies like Pakistan and have a negative effect on the entire economy. The volatility and fluctuations in oil prices lead to higher production costs, which create uncertainty in companies' cash flows.

Kontrol Keluarga dan Kemungkinan untuk Membayar Dividen: Pengaruh Volatilitas Arus Kas

This study aims to analyze the effect of family control on the likelihood of paying dividends with cash flow uncertainty as a moderating variable in manufacturing companies listed on the Indonesia Stock Exchange. This study analyzed the data by using Logistic Regression and the sample by a purposive sampling in the sampling method. The results show that family firms have a lower probability of paying dividends than non-family firms. However, cash flow uncertainty only acts as a predictor variable and does not moderate the effect of family control on the likelihood of paying dividends. The implication is that family companies have a lower probability of paying dividends compared to non-family companies, so investors need to consider the type of company in selecting investments in the company.

Handling the risk dimensions of wind energy generation

In this paper, we explore two strategies for reducing the cash flow uncertainty of wind energy producers ascribed to variable weather conditions. The first strategy is based on the idea of aggregating the output of geographically-dispersed generating units. The second strategy employs financial instruments that compensate producers for unanticipated declines in the power delivery. Using a blend of advanced weather modeling, time series analysis, simulation and optimization techniques, we empirically access the ability of the two risk management approaches to control volumetric risk in Spain. With the aid of factor analysis techniques, we proceed with the decomposition of the remaining risk levels and assess the exposure of each strategy’s revenue to systematic risk factors. Motivated by the results of this analysis, we propose new financial contracts and mixed-style strategies that are better suited to the risk position of each market player.

Geopolitical risk and corporate payout policy

In this study, we examine the effects of geopolitical risk on corporate payout policy. Exploiting a news-based index of geopolitical risk, we find that firms adopt a more conservative payout policy by reducing share repurchases in response to greater geopolitical risk, whereas the effects of geopolitical risk on cash dividends are insignificant. Further analysis suggests that cash flow uncertainty and financial distress risk are two potential channels through which geopolitical risk affects corporate payout policy. We also show that the effects of geopolitical risk on share repurchase are more pronounced for firms with greater exposure to product market competition and those facing higher threats of financial distress. Overall, our study emphasizes the implications of geopolitical risk for corporate payout choice.