Purpose We investigate the cash holding of business group (BG) firms in response to a regulation that restricts the fund flow within the internal capital market (ICM) of group firms. We leverage BG firms' heterogeneity to understand the underlying mechanism. Design/methodology/approach We analyse a panel of non-financial Indian BG and standalone firms by employing a difference-in-differences methodology, using the regulation on Related Party Transactions (RPTs) implemented by the Securities and Exchange Board of India (SEBI) in fiscal year 2015. Findings The regulation leads to a significant reduction in cash among BG relative to standalone firms. The decline is primarily driven by group firms acting as net loan providers. We find that certain firms in the group act as currency chests and hold higher cash levels. The mechanism and value of cash analyses align more with the group support motive rather than the expropriation rationale for holding corporate cash. Our findings are robust to a range of additional tests. Practical implications The findings highlight the unintended consequences of government reforms and urge policymakers to exercise prudence, as the regulation aimed to curb expropriation risks inadvertently undermines the support inherent within the ICM. Originality/value We uncover a novel insight on the cash holding behaviour of firms within a group, which diverges from the conventional view of holding lower cash levels. We further highlight that due to the inherent complexities within firms operating in ICMs, the regulatory oversight may overreach and diminish the potential benefits of ICMs.
Jain et al. (Tue,) studied this question.