Accessibility to Capital Markets and the Sensitivity of Investment to Cash Flow

Abstract

Using a unique data set on corporate governance and relationship banking for listed Korean firms, we examine how the sensitivity of investment to cash flow can vary depending on chaebol(business group) affiliation, the soundness of corporate governance, and the intimacy of relationship banking. In order to conduct this analysis, we categorize our samples into three groups: 1) a group with easier access to internal capital markets (chaebol group); 2) a group with easier access to bank loan markets (intimate banking relationship group); and 3) a group with easier access to stock market (sound corporate governance group). Then, we investigate investment-cash flow sensitivities by analyzing sample firms in each category. Our results show that cash flow measures play a significant role in investment expenditures for Korean firms. Using the flow concept of cash flow which measures a firms ability to generate profits, we find that both cash flow and investment opportunities are not significantly affecting corporate investment decisions. On the other hand, using the stock concept of cash flow which measures available funds, we find that cash flow is positively correlated with investment expenditures. And this positive effect is more pronounced for firms in non-chaebol groups, for firms with only a distant relationship with banks, and for firms showing poor corporate governance practices. Our evidence suggests that investment decisions by Korean firms are affected significantly by the stock concept of cash flow and this effect is greater for firms with less easy access to capital markets. This result is consistent with the idea suggested by Fazzari, Hubbard and Petersen (1988).