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What do frictions mean for Q-theory testing?

Bustamante, Maria Cecilia (2008) What do frictions mean for Q-theory testing? Swiss Finance Institute Research Paper Series, 08-47. Swiss Finance Institute.

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Abstract

This paper develops and empirically tests a model designed to distinguish the role of real and financing frictions on firms investment, debt financing and equity financing policies. Real frictions include fixed costs of investment and adjustment costs. Financing frictions include taxes, collateral constraints, flotation costs of equity and dividend constraints. Because of financing frictions, all corporate policies are interrelated and depend on average Q. Due to fixed costs of investment and binding financing constraints,the sensitivity of corporate policies to Q is non-linear. The empirical tests demonstrate that both the endogeneity and non-linearities created by real and financing frictions are economically significant. The paper provides a rationale for the documented poor performance of Q-theory in explaining investment, and for the differential performance of the neoclassical investment model in explaining investment and stock returns. The paper extends Q-theory to explain debt and equity issues, and shows that market to book sorts control for non-linearities in investment policies.

Item Type: Monograph (Working Paper)
Official URL: http://www.SwissFinanceInstitute.ch
Additional Information: © 2008 The author
Library of Congress subject classification: H Social Sciences > HG Finance
Journal of Economic Literature Classification System: E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Employment, and Investment > E22 - Capital; Investment (including Inventories); Capacity
G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice; Investment Decisions
G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure
Sets: Departments > Finance
Collections > Economists Online
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Identification Number: 08-47
Date Deposited: 18 Jan 2012 19:18
URL: http://eprints.lse.ac.uk/37453/

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