DO FINANCIAL CONSTRAINTS AFFECT THE RELATIONSHIP BETWEEN LEVERAGE AND CASH FLOW? EVIDENCE FROM FIRMS IN THE UK

Harshana Kasseeah

Abstract


Studies on capital structure have found that a firm’s cash flow is a major determinant of its leverage.  Using data on quoted firms in the UK, we innovate on existing literature by taking into account how financial constraints affect the relationship between leverage and cash flow.  Financial constraints are measured by a series of proxies which include real assets, tangible assets, dividend payments and employment levels.  We find that similar to firms in the US, the degree of financial constraints affects the relationship between leverage and cash flow of firms in the UK.   The sensitivity of leverage to cash flow innovations is negative, significant and smaller in magnitude for financially constrained firms than for financially unconstrained firms.


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ISSN : 2251-1555