Authors: Afroditi Papadaki, Olga-Chara Pavlopoulou-Lelaki

Title: The Nature of Firm Financing and Operating Profitability

Abstract

This study examines the effects of changes in external financing on operating profitability using a sample of listed firms from thirteen European countries for the period 2000-2017. The study differentiates between the effects of equity financing on firm operating performance from debt financing on that performance, and additionally investigates whether the risk of default alters the financing-profitability association. Findings indicate that changes in external financing (both equity and debt) are positively associated with operating profitability. This positive association is attributed to the opportunities for the firm arising from an increase in its financing to realize its investment plan and better position itself cash-flow wise, while a debt repayment or equity repurchase would result in a financial strain in the short-term. Changes in equity financing are positively and significantly associated with operating cash flows. On the contrary, changes in debt financing are negatively (positively) associated with concurrent (leading) cash flows. It is notable that firm-specific financial distress significantly reduces the magnitude of the associations between external financing and operating results.