Stakeholder orientation and the value of cash holdings: Evidence from a natural experiment

We investigate whether and, if so, how stakeholder orientation affects the value of cash holdings by disciplining inefficient management and reducing agency costs. In so doing, we exploit the staggered enactment of constituency statutes across different states as an exogenous shock that increases the degree of stakeholder orientation substantially. Specifically, we gauge the monitoring effect of stakeholders by using the market value of cash framework of Faulkender and Wang (2006). We find that on average the marginal value of cash holdings increases significantly, both statistically and economically, after the passage of constituency statutes. The effect of constituency statutes on the value of cash holdings is stronger for firms with relatively weaker stakeholder power, high agency costs, and high information asymmetry. In subsequent tests, we show that investment efficiency in M&As and capital expenditures has improved significantly after the adoption of constituency statutes suggesting that heightened stakeholder monitoring over investments is a potential channel to enhance the value of cash holdings. Overall, our results suggest that stakeholder orientation increases the value of cash holdings by mitigating agency problems.