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Business Group Affiliation, Financial Distress and Corporate Investment-Cash Flow Sensitivity: Evidence from India

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Indian Business Groups and Other Corporations

Part of the book series: India Studies in Business and Economics ((ISBE))

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Abstract

This study explores the role of business group affiliation and financial distress on determination of corporate investment policy of the manufacturing companies in India. We find that the firm specific variables like cash flow, Tobin’s Q ratio, sales income, age of the company, financial leverage are the major determinants of corporate fixed investments. Companies affiliated to a business group invest more in the fixed assets than the standalone companies. Group affiliation reduces the impact of cash flow in determining corporate fixed investment. The results indicate that financial distress plays a negative role in the determination of corporate investment. We also find that financial distress does not affect the investment-cash flow sensitivity of the affiliated firms in India. The results are robust across the periods and different types of companies.

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Notes

  1. 1.

    Fazzari et al. (1988) have classified firms to whether they were likely to be financially constrained on the basis of dividend payout ratio. High dividend payout ratio firm’s check can effortlessly get financial capitals from the market, if required. Therefore, paying dividends is likely to be a major indicator of a firm’s ‘good health’, signalling long-term growth prospects. Fazzari et al. (1988) have also argued that firms use available internal funds to distribute dividends, which demonstrate that these firms face no or fewer costs related to imperfections on the capital markets and treated as least financially constraints firms than that of firms that uses their lower cost of internal fund to finance their investment or have lower dividend payout ratio. The highest sensitivities to cash flow are found for firms categorized as financially constrained, and this is taken to indicate that financial constraints are binding in this case. Many further studies have followed the same methodology including Chirinko and Schaller (1995), Hubbard et al. (1995) as summarized by Hubbard (1998). Apart from this, several criteria have been used to classify firms as financially constrained, such as debt (Kaplan and Zingales 1997; Cleary 1999), cash stock (Kaplan and Zingales 1997; Povel and Raith 2001), cash flow volatility (Cleary 2006) and age (Devereux and Schiantarelli 1990; Oliner and Rudebusch 1992).

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Authors and Affiliations

  1. Department of Humanities and Social Sciences, Indian Institute of Technology, Kharagpur, India

    Jitendra Mahakud

  2. FORE School of Management, New Delhi, India

    Gaurav Gupta

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  1. Institute of Development Studies Kolkata, Kolkata, West Bengal, India

    Achin Chakraborty

  2. Institute of Development Studies Kolkata, Kolkata, West Bengal, India

    Indrani Chakraborty

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Mahakud, J., Gupta, G. (2023). Business Group Affiliation, Financial Distress and Corporate Investment-Cash Flow Sensitivity: Evidence from India. In: Chakraborty, A., Chakraborty, I. (eds) Indian Business Groups and Other Corporations. India Studies in Business and Economics. Springer, Singapore. https://doi.org/10.1007/978-981-99-5041-6_6

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