ABSTRACT

Purpose – This study aims to provide a review of corporate governance and cash holdings because strong corporate governance is necessary for the efficient utilization of firm’s liquid resources such as cash, to minimize the agency cost of high cash holdings and to improve the value of cash. Design/methodology/approach – The author provides a literature review of corporate governance and cash holdings through a conceptual and theoretical argument rather than empirical research. Findings – The author reviews empirical and theoretical work surrounding key corporate governance variables and identifies avenues for future research. The author finds that corporate governance mechanisms and cash holdings have received much attention during the last two decades. However, the significant role of corporate governance (both country-level and the firmlevel) in controlling the entrenched behaviour of the managers is discussed separately in the literature. The combined effect of both country-level and the firm-level governance is lacking in the cash holdings literature. Additionally, this study has found that while much attention is paid to developed markets, very little is paid to developing markets even though agency problems are high. Originality/value – The study contributes to the growing literature on corporate governance and cash holdings and provides a further understanding of the role of governance in minimizing the agency cost to increase value by assuring that firms’ assets are used efficiently and productively in the best interests of investors and other stakeholders. In addition, it provides new ideas for policy makers and future researchers where they need to do more work.

INTRODUCTION

Cash represents a major element in most firms’ set of assets. Cash has importance and investment of this type has been discussed by a number of authors including; Opler et al. (1999); Dittmar et al. (2003); Brigham and Daves (2004); Dittmar and Mahrt-Smith (2007); Bates et al. (2009); Al-Najjar and Belghitar (2011) and Bigelli and Sánchez-Vidal (2012). Recently, Yung and Nafar (2014); Iskandar-Datta and Jia (2014) and Yu. et al. (2015) found an increasing incidence of firms hoarding cash in unprecedentedly large amounts, indicating the significance of such assets in the corporate sector. Excessive cash hoarding by firms is a serious concern for shareholders. Firms hoard cash for different motives, one of which relates to diminishing transaction costs and avoiding loss of underinvestment due to the scarcity of funds (Keynes, 1936; Kim et al., 1998; Opler et al., 1999; Ozkan & Ozkan, 2004; Wayne & Partch, 2003). On the other hand, high cash is often associated with low returns on investment (Dittmar et al., 2003; Tong, 2010) as it is the asset class most likely to be misused by managers (Jensen, 1986). Managers’ value-creating behaviour is discouraged by higher cash when they invest in negative NPV projects. The low monitoring on the additional cash holdings results in managers accumulating perquisites and private benefits. These disadvantages lead to the agency problem of high cash (Harford, 1999; Jensen, 1986). Agency theory suggests that when managers are not properly monitored, they will extract private benefits from the excess cash because of non-alignment of the managers and the shareholders incentives (Dittmar & Mahrt-Smith, 2007; Dittmar et al., 2003; Harford et al., 2008; Kalcheva & Lins, 2007; Pinkowitz et al., 2006). This entrenched behaviour of the managers who are expected to waste the firms’ resources such as cash reserves, decrease the value of the firm (Durnev & Kim, 2005; Fresard & Salva, 2008; La Porta et al., 1998). Such behaviour can be controlled by adopting the corporate governance provisions.