Abstract
This paper proposes that greater transparency in the financial reporting environment facilitates the estimation of future liquidity needs and thus discourages financially constrained firms from accumulating cash for precautionary reasons. I examine this prediction using a sample of private firms from 12 European countries with disclosure mandates for public and private firms. The results indicate that private firms hold less cash when they operate in a more transparent reporting environment. Furthermore, I find that the decrease in cash holdings is more pronounced in industries with higher cash-deficit risk and for younger firms. The analysis of cash flow allocation indicates that cash reduction is driven by a higher fraction of cash flow being used to reduce debt and less cash saving out of cash flow, and not by more investment. Collectively, this study increases our understanding of how a transparent reporting environment influences the allocation of corporate cash among its alternative uses.