Income Smoothing and Value of Corporate Cash Holdings

Abstract

This study examines the effect of income smoothing on the market value of an additional dollar in cash holdings. I find that income smoothing negatively affects the marginal shareholder value of cash holdings. I also find that the effect of income smoothing on the value of cash holdings is more severe in firms with weak corporate governance. This result can be interpreted as that income smoothing garbles information in earnings, so aggravated information asymmetry from income smoothing discounts liquid assets in the firm. The result is robust after controlling various definitions of cash holdings and corporate governance.