Agency costs of free cash flow and the effect of shareholder rights on the implied cost of equity capital

Research output: Journal Publications and Reviews (RGC: 21, 22, 62)21_Publication in refereed journal

103 Scopus Citations
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Author(s)

  • Kevin C.W. Chen
  • Zhihong Chen
  • K.C. John Wei

Related Research Unit(s)

Detail(s)

Original languageEnglish
Pages (from-to)171-207
Journal / PublicationJournal of Financial and Quantitative Analysis
Volume46
Issue number1
Publication statusPublished - Feb 2011

Abstract

In this paper, we examine the effect of shareholder rights on reducing the cost of equity and the impact of agency problems from free cash flow (FCF) on this effect. We find that firms with strong shareholder rights have a significantly lower implied cost of equity after controlling for risk factors, price momentum, analysts' forecast biases, and industry and year effects than do firms with weak shareholder rights. Further analysis shows that the effect of shareholder rights on reducing the cost of equity is significantly stronger for firms with more severe agency problems from FCFs. © Copyright Michael G. Foster School of Business, University of Washington 2011.