The mediating effects of research and development and advertising expenditures on the relationship between free cash flow and sales: A dynamic perspective

Purpose: The purpose of this study is to discuss the mediating effects of research and development (R&D) and advertising expenditures on the relationship between free cash flow (FCF) and sales from a dynamic perspective. Design/methodology/approach: Drawing upon the resource-based and knowledge-based views, we propose a dynamic model, in which FCF change positively affects R&D expenditure change and advertising expenditure change, which in turn positively affect sales change, and the effect of FCF change on R&D expenditure change is moderated by industry type (high-tech vs. non-high-tech). To test for the dynamic mediating effects, we use a two-step approach that incorporates growth modelling and structural equation modelling, utilising longitudinal financial data. Findings/results: Research and development and advertising expenditure changes mediate the relationship between prior FCF change and subsequent sales change, with R&D expenditure change having a stronger dynamic mediating effect for high-tech firms. Practical implications: As FCF increases, managers should allocate a proportionate share of the incremental resources to R&D and advertising. High-tech firms should be particularly attentive to the need for allocation to R&D. Short-term gains should not come at the expense of long-term value creation. Businesses should establish mechanisms for continuous monitoring and adaptation. Originality/value: The results spotlight the mechanism of dynamic mediation of R&D and advertising expenditures on the relationship between FCF and sales and the moderating role of industry type on the dynamic mediation of R&D expenditures. This study enhances our understanding of dynamic mediation in the context of strategic investments.