Investment-Cash Flow Sensitivities are Useful: A Comment on Kaplan and Zingales

Abstract

A recent paper in this Journal by Kaplan and Zingales reexamines a subset of firms from work of Fazzari, Hubbard, and Petersen and criticizes the usefulness of investment-cash flow sensitivities for detecting financing constraints. We show that the Kaplan and Zingales theoretical model fails to capture the approach employed in the literature and thus does not provide an effective critique. Moreover, we describe why their empirical classification system is flawed in identifYing both whether firms are constrained and the relative degree of constraints across firm groups. We conclude that their results do not support their conclusions about the usefulness of investment-cash flow sensitivities.