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THE FREE CASH-FLOW THEORY VERSUS FINANCIAL CONSTRAINTS, INVESTMENTS, CORPORATE GOVERNANCE AND SOFT BUDGETING PROBLEMS

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Abstract:

The supposed preference of firms for internal financial sources to fund their investments can be explained by either the free cash-flow or the financial constraints theories, both relying on asymmetric information. Neither theory was found fully valid by recent research. Using a French data panel, conclusive evidence will be made in favour of the free cash-flow theory in special cases. The validity of the free cash-flow theory in special cases will bring new issues to light with the introduction of a new definition: soft budgeting problem of capital. Through this analysis, the possible interaction between capital market imperfections and general equilibrium will also gain new dimension.

Keywords: corporate governance; free cash-flow theory; soft budgeting problems

Document Type: Research Article

Publication date: December 19, 2001

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