Trade Credit, Firms’cash Holding Level And Regional Financial Development

Cash is a major component of asset for most firms. Cash also has the highest mobility and the lowest profitability. Several theories have founded to explain the cash holding behavior of firms. Keynes argues that firms’cash holding may bring several benefit. He describes the first benefit as the transition cost motive, and the second one as the precautionary motive. The motive theory for firms’ cash holding is based on Keynes’argument. The trade-off theory suggests that management that maximizes shareholder wealth should set the firm’s cash holdings at a level such that the marginal benefit of cash holdings equals the marginal cost of those holdings. The cost of holding cash includes the lower rate of return of these assets because of a liquidity premium and, possibly, tax disadvantages. Agency theory explain why firms do not hold the optimal amount of cash, since managers have a greater preference for cash, because it reduces firm risk and increases their discretion. This greater preference for cash can lead managers to accumulate too much cash. Scholars made predictions on the determinants of firms cash holding behavior based on those theories,and empirical evidence suggests that the determinants of firms’cash holding can be summarized into two categories-firms’ characteristic factors and corporate governance factors.As one of the determinants of firms’cash holding, net working capital was thought to have a negative relation with cash holding level, since firms can use their liquid assets when they experience cash shortfalls. Trade credit, which consists of firms’accounts receivable and accounts payable, is just a component of the net working capital(firms’accounts receivable as firm’s liquid asset and accounts payable as firm’s liquid liability).Although, trade credit is rarely considered to have a unique influence on firms cash holding level.Firms can delay payment to their suppliers through trade credit, they still need to hold some cash for future obligations. Trade creditors also thought to have a better governance than bank creditors, since they acquire firm’s information in a low cost So they can force managers to hold more cash in case a future cash shortfall So, firm’s accounts payable increase cash holding.Asthe same time, most firms also provide trade credit as a supplier. Although firms doesn’t receive cash right away, they can expect a positive income of cash in the future. Beside, firms can get a precise time of cash’s backflow, they can also use accounts receivable as a collateral to get loan from banks. So, firm’s accounts receivable has a negative impact on cash holding level. The sensitivity of cash holdings to payables and receivables is affected by many factors including the nature of the firm’s payables and receivables and its place in market competition. In this study, we focus on another significant factor:the regional financial development. Firms located in regions with higher level of financial development can gain access to finance more easily and at a lower cost. So, a deeper financial sector increases the substitute ratio of receivables for cash, as firms can use them to secure loans easier so it reduces the precautionary motive of firms cash holding.Using data from Chinese listed firms over the period from2006-2011,we find firms need to hold an additional$0.669for every$1of credit payables, whereas$1of credit receivable substitutes for only$0.158of cash. This finding suggests that trade payables and receivables have a asymmetric impact on cash holdings, and it may not be appropriate to treat trade credit just one component of working capital.We also find that firms located in regions with higher levels of financial development have a higher substitute ratio of credit receivables for cash. Additionally, we find the global financial crisis and the following easing fiscal and monetary policy also have impact on the sensitivity of cash holdings to payables and receivables which lead to a worse cash holding scenario for Chinese firms. But a deeper financial sector helps ease the negative shock and reduce the possibility of cash shortfall.We then conduct a two-stage instrumental variables regression to eliminate possible endogeneity problem. We also use a alternative variable refer firms cash holding level. Our conclusion stay robust.This study contributes to the standing literature in several ways. First, this study complements research on the determinants of cash holdings. Other than previous studies that treat trade credit just a component of working capital, our result shows that trade credit has it unique impact on cash holding levels. Second, our study enrich existing studies on trade credit. Most of the literature on trade credit focuses on the motives that firms extend and take trade credit, our study examines how trade credit influences firms’cash holding levels. Third, our study provide a micro level evidence that how financial development relates to economic growth, as it investigates the influence of financial development by linking two important trade credit and cash holding behavior.