Critical Analysis of Zygmunt Bauman's Consumer Life - Report Example

Critical Analysis of Zygmunt Baumans Consumer Life Introduction It is the duty of financial managers in corporations to make decisions that deal with their company’s investment and profit shortfalls. There are several financial theories that do support that information friction has a vital role when it comes to making financial decision in a firm. From the article we see that asymmetric information on asset values will impose adverse selection cost when it comes to equity issuance. This has therefore led to the prediction that firms whom their asset values are not clear to outsiders will always try and use debt when covering their financial needs while issuing equity as a means of last resort. In the end, this argument is of the prediction that firms whose asset risk is not clear to the outsiders will always end up issuing equity to act as a cover up for their financing needs (Baker & Jeffrey, 2002). It is the duty of any firm to invest/ finance their investments wisely (Baker & Jeffrey, 2002). This will involve finding the right kind and mix of finances to fund their investments while returning cash to the owner/ investors if they are not good investment. As observed in the article, the predictions have been tested empirically through examining how firms are managing to finance their investments and profit shortfalls (Baker & Jeffrey, 2002). Nonetheless, there is an estimation of a multi equation system whereby the dependent variables can be seen as the financing sources with the independent variables acting as factors that are affecting the need for finance (Baker & Jeffrey, 2002). At the same time, its coefficients can be seen to be constrained to obey the rules of accounting identities. Thereby, the model is able of providing a richer menu for financing choices with a more detailed description that aids in financing deficit (Baker & Jeffrey, 2002). We will therefore have to disaggregate debt as either short term or long term debt while allowing firms to issue equity, have the ability of repurchasing shares while building up their cash balances endogenously. Theory/ Literature Review There are several means through which firms do finance their assets. Basing from research from Barker (2002), a majority of firms will finance their investments through current or fixed assets and at times both. In this research, it were observed that firms end to use long term debt and equity in different ways when trying to finance investment in networked assets and net fixed assets. It is worth noting that cash holding do play a smaller role when it comes to financing both working assets and fixed assets. We will need to allow the possibility that in a firm there will be a difference in cash flow and information characteristics across firms thus this will lead to different financial patterns (Baker & Jeffrey, 2002). Previous research has indicated that the maturity and placement structures of debt plus the priority structure of firm’s claims will generally depend upon the firm’s characteristic reflecting issuance costs, agency conflicts and asymmetric information (Baker & Jeffrey, 2002). In the end share purchasing will not be affected by both types of investments thus supporting the common assumption when it comes to the literature stating that investments and payouts are independent. In order to account for the variation in the above factors, firms have to form portfolios that are based on size, debt service ability, the earnings and value to assets ratios. There will also be the need to separately estimate the firms systems separately against or for each of the stated portfolios (Baker & Jeffrey, 2002). There will also the need to modify our model in order to treat the firm’s characteristics of independent variables that have a chance of affecting the financing decisions (Baker & Jeffrey, 2002). Data and Methodology The following will be our major empirical findings based on the different methods used to analyze the dependent and independent variables. To begin with, from the estimates as observed from many firms it will appear that financing decisions are vigorous based on the respect whether investments can be thought to be exogenous or endogenous. The second point will be that the findings suggest to the firm to issue equity when it comes to financing situations that have the highest information imperfections (Baker & Jeffrey, 2002). When it comes to these investment situations, they will be the ones through which the contracting cots of debt are likely to be the maximum while the cash flow transparency been the lowest. In order to understand how firm finance their investment, we need to have an insight on the relative importance of debt contracting costs and equity issuance costs when it comes to conducting a battery of tests (Baker & Jeffrey, 2002). The findings thereby indicate that, on the scale of financing and increasing debt costs will appear to outweigh the marginal information costs that is linked with the issuing of equity a information perfections tend to become more severe. Nevertheless, while investment induced deficits will appear to be financed by both debt and equity, we will find out deficit caused as a result of shortfalls in profit can be primarily financed by equity and not by debt (Baker & Jeffrey, 2002). This end result is new to the literature and may suggest that debt contacting costs will definitely dominate equity issuance costs when it comes to financing needs that may be initiated by operating losses. A good example is when financing assets those are in place in the firm. Accessible literature shows that debt and equity financing tend to respond symmetrically to investments and shortfalls in internally generated funds (Baker & Jeffrey, 2002). Results/ Findings The data used in article was collected from Compustat annual files, and they are from the year 1972 to 2004. From this investment data, our model will provide us with a prosperous set of empirical results. Firstly, the findings show that it is definitely the case that firms actively and concurrently use different forms of financing sources (Baker & Jeffrey, 2002). This will be both from drawing down the excess cash balances (commonly known as internal means of financing) and at the same time issuing short and long term debt and equity (external financing) in order to meet their financing needs (Baker & Jeffrey, 2002). These results thereby support many previous findings from fiancé researchers. In the end, most firms tend not to regularly adjust their payouts to act as a financing tool. This mean that with their investment needs, firms will behave as if payout policy and their financing choices were separable (Baker & Jeffrey, 2002). Secondly, the firms will tend to use the increase in earnings in order to increase their payouts while at the same time as observed to help in replenishing the excess cash balances while reducing the issuance of debt and equity. Thirdly, firms will use the excess cash and issue debt to finance investments in networked assets while issues debt and equity to help in funding investments in net fixed assets (Baker & Jeffrey, 2002). It should be assumed that networked assets are more information transparent as compared to fixed assets, thus this finding tend to be inconsistent with the finding that information costs tend to cause firms to avoid equity issuance. While supporting these facts they show that equity issues are frequent. We will hereby find that firms will tend to issue substantial amounts of equity in order to fund their investments. We will also find out that equity issues tend to be less sensitive as compared to debt when it comes to financing the expansion of fixed assets. At the same time equity will respond more when it comes to financing deficits that have been induced by a result of operating losses (Baker & Jeffrey, 2002). This leads us to the observation that in some situations equity issues tend to be more closely tied than debt issues when it comes to the firms’ financing external deficits thus they cannot be solely explained by market timing and the rebalancing of the capital structures. Nonetheless, we find out firms will issue equity mostly to fund investments that will have the highest information cost (Baker & Jeffrey, 2002). An example is when they finance research and developments projects and adverts. This can be compared to fixed asset investments and the funding of organic investments as compared to acquisitions. Lastly, with the scenario or case of equity issuance to fund investments is commonly among firms that have a tendency to have high information costs, small firms and firms that have high value to their assets (Baker & Jeffrey, 2002). This evidence on equity use by high information asymmetry firms is even stronger when the financing need has been initiated by the shortfalls in profits. In the end the firms will not reduce the outside equity financing pound for pound when the profits increase. With our purpose been different from theirs, recent research has shown the pecking order of financing to be related to our paper. This research examined only debt financing while we have examined an even broader set of financing decisions like: cash holdings, short term and long term debt issues, equity issues and cash dividends. In addition, we have to be of the assumption that investments are exogenous with respect to the choice of financing and the financing decision will therefore have to respond symmetrically to investments and as well as to the firms’ profits and losses (Baker & Jeffrey, 2002). It should be noted that we had to allow for endogenous investments and respective asymmetric responses of financing to investments and their disinvestments while considering the profit and losses made by the firm. Conclusion It is known or a fact that some financing choices could be importunate. Thus when ignored, these financing choices may lead to biasness in estimates of financing to investments and income. At the same time, debt and issues arising from equity should not be contemporaneous with investments. This may allow firms to issue equity one year in advance to the intended investments. This decision will thus affect the amount of equity or equity that is issued in that current year. This will help us in examining the relative costs of financing alternative change with the investment environment becoming lesser transparent. It is known that investments need to be financed, but how most firms do does it, is the big question Baker & Jeffrey, 2002). As early as 1950s, it was observed by barker (2002) that in a perfect capital market that is populated by rational investors, financing choices will not affect the firm value and therefore becoming irrelevant. Research that followed thus studied the question in settings by which markets that are assumed to be imperfect or investor rationality should be bounded. Most of the research was focused on the imperfections on the allocation of information. It is known that imperfection could lead to adverse selection cost of equity issues and thus contracting costs of debit issues. This paper has thereby examined empirically how these costs tend to affect the financing decision made by firms (Baker & Jeffrey, 2002). Traditionally, the financing decision has mostly been scrutinized by the use of a single equation model which has an aggregated financial deficit. In this paper, we have taken the more general approach model. This model has two sections; financing and investments are first jointly determined and secondly the firms will need several available financing choices. This model is known to abide firms by the limitation that sources of funds will have to equal the uses of funds (Baker & Jeffrey, 2002). The traditional model is known to ignore this financial limitation. In the end, our empirical findings have shown that firms will meet their financing needs by drawing down on their available surplus cash balances and through raising extra funds in the external capital markets. In conclusion, a majority of firms appear been able to issue equity when there is the need to finance capital expenditure (Baker & Jeffrey, 2002). Moreover, the apparently invasive use of equity tends to be more definite in the scenario of small firms, firms with high growth, low profit firms and firms that have a high ability of servicing debt. Reference Baker, M & Jeffrey, W( 2002), Market timing and capital structure, Journal of Finance Vol. 5, no. 7, pp.1-32. Read More