FREE CASH FLOW, MANAGERIAL OWNERSHIP, AND AGENCY COST: A NONLINEAR EVIDENCE FROM NIGERIAN QUOTED CONSUMER AND INDUSTRIAL GOODS FIRMS

Abstract

This study focuses on a nonlinear approach in assessing the effect of free cash flow and managerial ownership on the agency cost of firms listed under the Consumer and Industrial Goods sector in the Nigerian Stock Exchange (NSE). Based on the extant theories, firms with high free cash flow are more exposed to agency costs. Existing literature however shows that managerial ownership could moderate this tendency. In this study, we argue that the extent to which managerial ownership moderates the effect of free cash flow on firms’ agency costs is dependent upon the level of the ownership, and thus, the moderation effect is not entirely linear. The study therefore empirically investigates whether free cash flow has a significant positive effect on agency costs; whether managerial ownership has a nonlinear effect on free cash flow; and whether the moderating effect of managerial ownership on the association of free cash flow and agency costs is nonlinear (not the same at different levels [Formula: see text]25% and above 25%). We estimate the panel regression using data from 2009 to 2015 to test three main hypotheses. We measured free cash flow using the cash flow approach and adopted the inverse of asset utilization to proxy for agency costs. The findings reveal that while free cash flow linearly and negatively affects agency costs, managerial ownership has a nonlinear effect on free cash flow and on the effect of free cash flow on agency costs. In line with the findings, this study concludes that managerial ownership is not a straight jacket remedy for tacking problems associated with agency costs that results from having excess free cash flow. Further studies should consider other proxies of agency costs.