The most common explanation for variation in firm investment is that firms invest more in sectors with lower concentration of output. The distribution of firms by size is similar to that of the aggregate output of nations, and global studies have highlighted the importance of firm size in aggregate output. Large firm-level data sets using administrative sources have also made it possible to construct full distributions. However, the lack of direct comparisons with the underlying characteristics of firm size makes the explanation of variation in investment difficult.
In contrast, firm-specific factors are related to changes in aggregate investment. This is because firms with high internal funding are more sensitive to the fluctuations in external funding than smaller firms. Kaplan and Zingales (1997) compared the relative vulnerability of firms to external shocks and found that large firms have the highest internal cash flow volatility. These findings are consistent with previous studies showing that small and medium-sized firms are more likely to be affected by economic shocks than larger or more diversified companies.
While many firms are sensitive to uncertainty, smaller firms are especially vulnerable to it. In fact, if we are to apply Gabaix’s theory to the real world, the largest firms are likely to be the most sensitive to changes in their internal funds. This means that the economic cycle can affect small and large firms in different ways. In addition, large firms are more likely to be impacted by a COVID-19 pandemic than smaller firms.
Although there is some evidence of firm investment, there is little empirical support for it. Various studies have shown that firms are much more sensitive to uncertainties than small firms. In the case of smaller firms, the impact of economic uncertainty is more acute. Moreover, studies show that these firms’ internal cash flows are more volatile than those of larger ones. Besides, these findings also suggest that smaller firms are more vulnerable to shocks than larger ones. This finding is in line with other recent findings that show that the most stable and financially sound firms are more resilient to market conditions.
Other research indicates that firm size affects firm investment. Small firms are particularly sensitive to changes in external and internal factors. While large firms are more resilient to change, small firms are more vulnerable to fluctuations in investment. This is because the smallest firms are not fully resilient to global economic crises. This is why it is crucial to understand the implications of such studies on the size of individual firms. While small firms have greater capital requirements, larger firms are more vulnerable to global risks.
In addition to the size of the firm, a firm’s internal funds also affect its investment decisions. For example, a small firm is less sensitive to internal funds than a large one. The differences in their internal cash flow are correlated with the size of the firm. Whether it is a large or small firm invests more or less depends on its internal creditworthiness. These factors are also closely related to taxation and the financial environment.
