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Book part
Publication date: 4 July 2015

Tarek Eldomiaty, Ola Attia, Wael Mostafa and Mina Kamal

The internal factors that influence the decision to change dividend growth rates include two competing models: the earnings and free cash flow models. As far as each of…

Abstract

The internal factors that influence the decision to change dividend growth rates include two competing models: the earnings and free cash flow models. As far as each of the components of each model is considered, the informative and efficient dividend payout decisions require that managers have to focus on the significant component(s) only. This study examines the cointegration, significance, and explanatory power of those components empirically. The expected outcomes serve two objectives. First, on an academic level, it is interesting to examine the extent to which payout practices meet the premises of the earnings and free cash flow models. The latter considers dividends and financing decisions as two faces of the same coin. Second, on a professional level, the outcomes help focus the management’s efforts on the activities that can be performed when considering a change in dividend growth rates.

This study uses data for the firms listed in two indexes: Dow Jones Industrial Average (DJIA30) and NASDAQ100. The data cover quarterly periods from 30 June 1989 to 31 March 2011. The methodology includes (a) cointegration analysis in order to test for model specification and (b) classical regression in order to examine the explanatory power of the components of earnings and free cash flow models.

The results conclude that: (a) Dividends growth rates are cointegrated with the two models significantly; (b) Dividend growth rates are significantly and positively associated with growth in sales and cost of goods sold only. Accordingly, these are the two activities that firms’ management need to focus on when considering a decision to change dividend growth rates, (c) The components of the earnings and free cash flow models explain very little of the variations in dividends growth rates. The results are to be considered a call for further research on the external (market-level) determinants that explain the variations in dividends growth rates. Forthcoming research must separate the effects of firm-level and market-level in order to reach clear judgments on the determinants of dividends growth rates.

This study contributes to the related literature in terms of offering updated robust empirical evidence that the decision to change dividend growth rate is discretionary to a large extent. That is, dividend decisions do not match the propositions of the earnings and free cash flow models entirely. In addition, the results offer solid evidence that financing trends in the period 1989–2011 showed heavy dependence on debt financing compared to other related studies that showed heavy dependence on equity financing during the previous period 1974–1984.

Details

Overlaps of Private Sector with Public Sector around the Globe
Type: Book
ISBN: 978-1-78441-956-1

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Article
Publication date: 30 August 2013

Georgios Papanastasopoulos, Dimitrios Thomakos and Tao Wang

The purpose of the paper is to investigate the relation between the value/growth anomaly and the external financing anomaly by considering an expanded value/growth…

Abstract

Purpose

The purpose of the paper is to investigate the relation between the value/growth anomaly and the external financing anomaly by considering an expanded value/growth indicator: free cash flow yield (free cash flows scaled by price).

Design/methodology/approach

The paper utilizes portfolio‐level tests and cross‐sectional regressions.

Findings

In line with the literature on contrarian portfolios, this paper finds that firms with low (high) free cash flow yield are experiencing low (high) returns. However, only when an investor buys (sells) stocks of firms with high (low) free cash flow yield that distribute (raise) capital, his zero‐cost portfolio is significant. These findings are robust, irrespective of the financing vehicle (equity or debt). Overall, their evidence suggests that distinctions between the value/growth anomaly and the external financing anomaly partially disappear, if one is willing to employ free cash flow yield as a proxy of the former anomaly.

Originality/value

The paper enhances one's understanding of the relation between asset pricing anomalies.

Details

Journal of Economic Studies, vol. 40 no. 4
Type: Research Article
ISSN: 0144-3585

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Article
Publication date: 1 August 2006

Dimitrios V. Kousenidis

This paper reports an attempt to design a free cash flow version of the cash flow statement. In specific, the paper relates the comprehensive income concept to the…

Abstract

Purpose

This paper reports an attempt to design a free cash flow version of the cash flow statement. In specific, the paper relates the comprehensive income concept to the definition of free cash flows and shows how free cash flows and residual income can be calculated from the cash flow statement.

Design/methodology/approach

This paper exhibits how this different version of the cash flow statement can be reported by illustrating the differences with the form of the statement required by the regulatory accounting bodies.

Findings

This paper shows that the cash flows resulting from operating and investing activities are exactly equal to the cash flows received by debt and equity holders (financing activities) by using a simple definition of a company's free cash flow.

Practical implications

The method used requires a different version of a cash flow statement in which all financing related cash flows, such as interest expense is not included in the cash flow from operating activities. This version of the cash flow statement can be used in order to evaluate and appreciate financial policy formulation.

Originality/value

The paper provides to the shareholders and all the parties who are interested in firm and its operation (managers, lenders etc) with information about the company's ability to distribute dividends, to issue new debt and in general the company's ability to meet its obligations.

Details

Managerial Finance, vol. 32 no. 8
Type: Research Article
ISSN: 0307-4358

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Article
Publication date: 2 October 2007

Pablo Fernández

The aim of this paper is to answer the question: Do discounted cash flows valuation methods provide always the same value?

Abstract

Purpose

The aim of this paper is to answer the question: Do discounted cash flows valuation methods provide always the same value?

Design/methodology/approach

This paper is a summarized compendium of ten methods including: free cash flow; equity cash flow; capital cash flow; adjusted present value; business's risk‐adjusted free cash flow and equity cash flow; risk‐free rate‐adjusted free cash flow and equity cash flow; economic profit; and economic value added.

Findings

All ten methods always give the same value.

Research limitations/implications

The disagreements among the various theories of firm valuation arise from the calculation of the value of the tax shields (VTS). The paper analyses nine different theories.

Originality/value

The paper is an analysis of ten methods of company valuation using discounted cash flows and nine different theories about the VTS.

Details

Managerial Finance, vol. 33 no. 11
Type: Research Article
ISSN: 0307-4358

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Article
Publication date: 6 March 2017

Emita W. Astami, Rusmin Rusmin, Bambang Hartadi and John Evans

The purpose of this paper is to examine the effect of culture and audit quality on managers’ decisions regarding accounting accruals. It focuses on companies experiencing…

Abstract

Purpose

The purpose of this paper is to examine the effect of culture and audit quality on managers’ decisions regarding accounting accruals. It focuses on companies experiencing excessive free cash flow, as these companies have been associated with an agency problem.

Design/methodology/approach

This study measures the magnitude of discretionary accruals as a proxy for earnings management using the cross-sectional modified Jones model. Excessive free cash flow is scrutinized by the method used by Chung et al. (2005). Listed companies in nine countries in the Asia-Pacific region are represented in this study. The statistical analyses are used to examine the influence of cultural aspect, the role of external monitoring by high-quality auditors and the earnings management practice in the companies with excessive free-cash-flow.

Findings

The empirical results presented in this paper provide support for the proposition that managers of companies with excessive free-cash-flow will make investment decisions that are not always in the best interest of the shareholders and use accounting discretion to increase reported earnings. This study provides empirical evidence that these companies have been associated with an agency problem and the role of external auditor persists in a setting, where cultural differences prevail in across countries.

Practical implications

In cross-border trade and investment, the findings provide the opportunity to exploit a setting, where cultural differences prevail, whereas other potentially influential variables, including the role of external monitoring by high-quality auditors, are relatively constant across countries.

Originality/value

Previous studies (Leuz et al., 2003; and Enomoto et al., 2015) examine factors influencing earnings management internationally have concentrated on legal institutions and investor protection. Han et al. (2010) completed a cross-country study on the effects of national culture on earnings management. This study focuses on companies across countries experiencing with excessive free cash flow and examines the cultural aspect and the effectiveness of external monitoring by high-quality auditors operating in different countries in mitigating managerial opportunism.

Details

International Journal of Accounting & Information Management, vol. 25 no. 1
Type: Research Article
ISSN: 1834-7649

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Article
Publication date: 1 February 1993

Richard Dobbins

Sees the objective of teaching financial management to be to helpmanagers and potential managers to make sensible investment andfinancing decisions. Acknowledges that…

Abstract

Sees the objective of teaching financial management to be to help managers and potential managers to make sensible investment and financing decisions. Acknowledges that financial theory teaches that investment and financing decisions should be based on cash flow and risk. Provides information on payback period; return on capital employed, earnings per share effect, working capital, profit planning, standard costing, financial statement planning and ratio analysis. Seeks to combine the practical rules of thumb of the traditionalists with the ideas of the financial theorists to form a balanced approach to practical financial management for MBA students, financial managers and undergraduates.

Details

Management Decision, vol. 31 no. 2
Type: Research Article
ISSN: 0025-1747

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Article
Publication date: 29 April 2014

Redhwan Ahmed AL-Dhamari and Ku Nor Izah Ku Ismail

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…

Abstract

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.

Details

International Journal of Accounting and Information Management, vol. 22 no. 2
Type: Research Article
ISSN: 1834-7649

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Article
Publication date: 1 December 2001

Stewart Jones and Rohit Sharma

Outlines the rapid growth of “new economy” companies in Australia and compares their levels of earnings management with “old economy” firms, using data on all Australian…

Abstract

Outlines the rapid growth of “new economy” companies in Australia and compares their levels of earnings management with “old economy” firms, using data on all Australian listed companies. Reviews the relevant research, explains the methodology and presents the results. Shows that the old economy firms do engage in significant earnings management which is positively associated with leverage and free cash flow levels but, surprisingly, that this is far less evident in the new economic sector. Considers consistency with other research, the underlying reasons for the findings (including regulatory constraints) and opportunities for further research.

Details

Managerial Finance, vol. 27 no. 12
Type: Research Article
ISSN: 0307-4358

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Article
Publication date: 1 March 1997

Dosoung Choi

This paper presents evidence that the valuation consequences of targeted share repurchase announcements are positively related to the size of the firms' pre‐repur‐chase…

Abstract

This paper presents evidence that the valuation consequences of targeted share repurchase announcements are positively related to the size of the firms' pre‐repur‐chase free cash flows and to the firms' pre‐repurchase build‐up of liquid assets. The paper further reports that the level of liquid assets declines permanently following the share repurchases. The results suggest that a share repurchase is a viable means to cut down surplus cash and that such decision can increase shareholder wealth by reducing agency costs of free cash flows.

Details

Managerial Finance, vol. 23 no. 3
Type: Research Article
ISSN: 0307-4358

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Article
Publication date: 5 October 2020

Denis Mike Becker

The primary purpose of this paper is to develop the translation formula between the required return on unlevered and levered equity for the specific case where cash flows

Abstract

Purpose

The primary purpose of this paper is to develop the translation formula between the required return on unlevered and levered equity for the specific case where cash flows have a finite lifetime and the flow to debt is prespecified. The secondary purpose of this paper is to underpin the importance of the type of stochasticity of cash flows for translation formulas. A general derivation of such formulas and the discount rate in the free cash flow approach is shown.

Design/methodology/approach

The paper starts with the same assumptions that have been applied by Modigliani and Miller (1963), Miles and Ezzell (1980) and other researchers. Then the paper develops the mathematical foundations to apply a deterministic backward-iterative scheme for valuing cash flows. After stating the valuation formulas for levered and unlevered equity, debt and tax shields, the authors mathematically derive the relationship between the unlevered return and levered return on equity.

Findings

Conventional translation formulas apply to very special cases. They can generally not be used for projects with nonconstant leverage and a finite lifetime. In general, translation formulas depend on continuing values, cash flows, leverage, taxation, risk-free rate, etc. In this paper, the translation depends on the structure of the debt in addition to the well-known parameters in conventional formulas. This paper formula contains the Modigliani-Miller translation formula as a special case.

Originality/value

The authors develop a novel formula for the translation of the required return on unlevered to levered equity. With this formula, the authors offer a solution for the consistent valuation of cash flows with a limited lifetime and given debt financing.

Details

Managerial Finance, vol. ahead-of-print no. ahead-of-print
Type: Research Article
ISSN: 0307-4358

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