Hostname: page-component-78c5997874-fbnjt Total loading time: 0 Render date: 2024-11-16T15:28:01.506Z Has data issue: false hasContentIssue false
  • English
  • Français

Irreversible Investment, Financing, and Bankruptcy Decisions in an Oligopoly

Published online by Cambridge University Press:  06 April 2009

Jyh-bang Jou  and
Tan Lee
Jyh-bang Jou
Affiliation:
[email protected], Department of Economics and Finance, Massey University (Albany Campus), Auckland, New Zealand and Graduate Institute of National Development, National Taiwan University, No. 1 Roosevelt Rd. Sec. 4, Taipei 106, Taiwan, R.O.C.
Tan Lee
Affiliation:
[email protected], Department of Finance, Auckland University of Technology, Auckland, New Zealand and Department of International Business, Yuan Ze University, 135 Yuan-Tung Rd., Chung-Li, Taoyuan 320, Taiwan, R.O.C.
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper examines a firm's debt level, investment timing, and investment scale choices in a continuous-time model where the output price of a good that the firm produces depends on a stochastic demand-shift variable and the total industry supply of the good. Using the simple symmetric Cournot-Nash equilibrium assumption that all firms are identical and therefore follow the same financing and investment strategies, we show that competition decreases the output price and hence encourages a firm to wait for a higher demand level before it is profitable to invest. We also demonstrate how uncertainty, bankruptcy costs, and corporate taxation affect the firm's financing and investment decisions.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 43 , Issue 3 , September 2008 , pp. 769 - 786
Copyright
Copyright © School of Business Administration, University of Washington 2008

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Bar-Ilan, A., and Strange, W. C.. “The Timing and Intensity of Investment.” Journal of Macroeconomics, 21 (1999), 57–77.Google Scholar
Brander, J. A., and Lewis, T. R.. “Oligopoly and Financial Structure: The Limited Liability Effect.” American Economic Review, 76 (1986), 956–970.Google Scholar
Brander, J. A., and Lewis, T. R.. “Bankruptcy Costs and the Theory of Oligopoly.” Canadian Journal of Economics, 21 (1988), 221–243.CrossRefGoogle Scholar
Childs, P. D.; Mauer, D. C.; and Ott, S. H.. “Interactions of Corporate Financing and Investment Decisions: The Effect of Agency Conflicts.” Journal of Financial Economics, 76 (2005), 667–690.Google Scholar
Dixit, A. K., and Pindyck, R. S.. Investment under Uncertainty. Princeton, NJ: Princeton University Press (1994).Google Scholar
Ericsson, J. “Asset Substitution, Debt Pricing, Optimal Leverage and Maturity.” Finance, 21 (2000), 39–70.Google Scholar
Fries, S.; Miller, M.; and Perraudin, W.. “Debt in Industry Equilibrium.” Review of Financial Studies, 10 (1997), 39–67.Google Scholar
Grenadier, S. R. “Option Exercise Games: An Application to the Equilibrium Investment Strategies of Firms.” Review of Financial Studies, 15 (2002), 691–721.CrossRefGoogle Scholar
Jensen, M. C., and Meckling, W. H.. “Theory of the Firm: Managerial Behavior, Agency Costs, and Capital Structure.” Journal of Financial Economics, 4 (1976), 177–203.Google Scholar
Jou, J.-B. “Entry, Bankruptcy, and Financing Decisions: The Limited Liability Effect.” Quarterly Review of Economics and Finance, 41 (2001), 69–88.Google Scholar
Jou, J.-B., and Lee, T.. “Debt Overhang, Costly Expandability and Reversibility, and Optimal Financial Structure.” Journal of Business Finance and Accounting, 31 (2004a), 1191–1222.CrossRefGoogle Scholar
Jou, J.-B., and Lee, T.. “The Agency Problem, Investment Decision and Optimal Financial Structure.” European Journal of Finance, 10 (2004b), 489–509.Google Scholar
Kraus, A., and Litzenberger, R. H.. “A State-Preference Model of Optimal Financial Leverage.” Journal of Finance, 28 (1973), 1213–1252.Google Scholar
Leland, H. E. “Corporate Debt Value, Bond Covenants, and Optimal Capital Structure.” Journal of Finance, 49 (1994), 1213–1252.CrossRefGoogle Scholar
Leland, H. E. “Agency Costs, Risk Management, and Capital Structure.” Journal of Finance, 53 (1998), 1213–1244.Google Scholar
Leland, H. E., and Toft, K. B.. “Optimal Capital Structure, Endogenous Bankruptcy, and the Term Structure of Credit Spreads.” Journal of Finance, 51 (1996), 987–1019.CrossRefGoogle Scholar
Maksimovic, V. “Financial Structure and Product Market Competition.” In Finance Handbooks in Operations Research and Management Science, Jarrow, R. A., Maksimovic, V., and Ziemba, W. T., eds. Amsterdam: North-Holland (1995), 887–920.Google Scholar
Mauer, D. C., and Ott, S. H.. “Agency Costs, Investment Policy and Optimal Capital Structure: The Effect of Growth Options.” In Project Flexibility, Agency and Market Competition: New Developments in the Theory and Application of Real Options, Brennan, M. J. and Trigeorgis, L., eds. London: Oxford University Press (2000), 151–179.Google Scholar
Mauer, D. C., and Sarkar, S.. “Real Options, Agency Conflicts, and Optimal Capital Structure.” Journal of Banking and Finance, 29 (2005), 1405–1428.Google Scholar
Mauer, D. C., and Triantis, A. J.. “Interactions of Corporate Financing and Investment Decisions: A Dynamic Framework.” Journal of Finance, 49 (1994), 1235–1277.Google Scholar
Myers, S. “Determinants of Corporate Borrowing.” Journal of Financial Economics, 5 (1977), 147–175.Google Scholar
Phillips, G. M. “Increased Debt and Industry Product Markets: An Empirical Analysis.” Journal of Financial Economics, 37 (1995), 189–238.CrossRefGoogle Scholar
Pindyck, R. S. “Irreversible Investment, Capacity Choice, and the Value of the Firm.” American Economic Review, 79 (1988), 969–985.Google Scholar