Role of Leverage in the Corporate Investment Decisions Empirical Evidence of an Emerging Economy

Abstract

In the instance of emerging economies, this research examines the firms’ investment decision and leverage relationship. This study examines a sample Pakistan Stock Exchange (PSX) listed firms. Time period consists of six years from 2015 to 2020. To investigate the investment and leverage link Generalized Least Square (GLS) regression is used because of its more precise estimates than the ordinary least squares (OLS) estimator. Results reveal that leverage is negatively and significantly associated with the investment. In the case of Pakistan, this indicates that increased debt financing results in a decrease in company investment. Firms' investment decisions are also influenced by several other variables such as profitability, liquidity, and cash flows. Findings are in support of the corporate agency hypothesis, revealing that leverage plays a key role in the firm's growth. To solve the possible problem of endogeneity, the robustness of these results is cross-checked by using the Generalized Estimation Equation (GEE) method. The current paper adds to the existing body of knowledge in several ways. To begin, we contribute to the continuing discussion about whether corporate investment decisions are influenced by firm leverage. Second, in the context of emerging markets, we present an empirical study. Future research can be done with an evaluation between emerging and advanced countries, this study can be expanded across industry lines and at the country level. Because investment divergence from an ideal level is linked to the agency problem, these findings have important implications for corporate governance to protect shareholders' interests as well as in the context of emerging markets, this conclusion has significant implications.