How do Agency Problems Affect the Implied Cost of Capital?

Ching-Chih Wu, Tung-Hsiao Yang () and Bing-Huei Lin
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Tung-Hsiao Yang: Department of Finance, National Chung Hsing University, No. 250, Kuo Kuang Rd., Taichung 40227, Taiwan

Journal of Reviews on Global Economics, 2016, vol. 5, 210-226

Abstract: We test the relationship between the implied cost of capital and two agency problems, free cash flows and overinvestment. We show that free cash flows have a significant negative impact on the implied cost of capital, but overinvestment has a significantly positive impact. In addition, the pay-for-performance sensitivity has a negative effect but the sensitivity of volatility has a significantly positive effect on the implied cost of capital. After taking the incentives into account, we find that the significance of the impact from both agency problems still exists. Finally, we conclude that well-designed executive compensation should focus on reducing overinvestment and the sensitivity of volatility.

Keywords: Agency problems; Free cash flows; Overinvestment; Implied cost of capital. (search for similar items in EconPapers)
JEL-codes: G30 G32 G34 (search for similar items in EconPapers)
Date: 2016
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Persistent link: https://EconPapers.repec.org/RePEc:lif:jrgelg:v:5:y:2016:p:210-226

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