Advanced Search
MyIDEAS: Login to save this paper or follow this series

Financing and Corporate Growth under Repeated Moral Hazard

Contents:

Author Info

  • Anderson, Ronald W
  • Nyborg, Kjell G

Abstract

This Paper considers the impact of financial contracting on growth by exploring a model where entrepreneurs initially do R&D but subsequently need both outside investors to provide funds for capital investments and outside managers to operate the firm efficiently some time after assets are in place. The source of contracting inefficiency is that insiders can divert cash flows for their own benefit. We employ a repeated game framework which allows us to model outside equity as well as inside equity and debt. We call our framework the two-stage model of firm growth. A key finding is that outside equity promotes ex post efficiency (second stage growth) at the expense of ex ante efficiency (first stage growth), while debt works the opposite way. This is because equity promotes replacement of the entrepreneur, while debt promotes entrenchment. So debt has the disadvantage that it is less conducive to the implementation of second stage growth than equity, but the advantage that it provides the entrepreneur with more incentives to do R&D in the first place. Furthermore, equity is fragile, in the sense that moral hazard may be so high that investors will not finance the firm, regardless of the discount rate. In contrast, debt financing definitely can be raised for low discount rates. A prediction of the model is that in a cross-section of firms, we should observe a preponderance of highly levered, closely-held firms which have stagnated after an early growth phase.

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
File URL: http://www.cepr.org/pubs/dps/DP2920.asp
Download Restriction: CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.

Bibliographic Info

Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2920.

as in new window
Length:
Date of creation: Aug 2001
Date of revision:
Handle: RePEc:cpr:ceprdp:2920

Contact details of provider:
Postal: Centre for Economic Policy Research, 77 Bastwick Street, London EC1V 3PZ.
Phone: 44 - 20 - 7183 8801
Fax: 44 - 20 - 7183 8820

Order Information:
Email:

Related research

Keywords: corporate growth; debt; incomplete financial contracting; outside equity; repeated moral hazard;

Other versions of this item:

Find related papers by JEL classification:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Rafael LaPorta & Florencio Lopez de-Silanes & Andrei Shleifer & Robert W. Vishny, 1996. "Law and Finance," Harvard Institute of Economic Research Working Papers 1768, Harvard - Institute of Economic Research.
    • Rafael LaPorta & Florencio Lopez-de-Silanes & Andrei Shleifer & Robert W. Vishny, . "Law and Finance," Working Paper 19451, Harvard University OpenScholar.
    • La Porta, Rafael & Lopez-de-Silanes, Florencio & Shleifer, Andrei & Vishny, Robert W., 1998. "Law and Finance," Scholarly Articles 3451310, Harvard University Department of Economics.
    • Rafael La Porta & Florencio Lopez-de-Silane & Andrei Shleifer & Robert W. Vishny, 1996. "Law and Finance," NBER Working Papers 5661, National Bureau of Economic Research, Inc.
  2. Gale, Douglas & Hellwig, Martin, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 52(4), pages 647-63, October.
  3. Julian R Franks & Kjell G Nyborg, 1994. "Control Rights, Debt Structure, and the Loss of Private Benefits: The Case of the UK Insolvency Code," CEPR Financial Markets Paper, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ 0047, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ.
  4. Oliver Hart & Sanford Grossman, 1985. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Working papers 372, Massachusetts Institute of Technology (MIT), Department of Economics.
  5. Bengt Holmstrom & Steven N. Kaplan, 2001. "Corporate Governance and Merger Activity in the United States: Making Sense of the 1980s and 1990s," Journal of Economic Perspectives, American Economic Association, vol. 15(2), pages 121-144, Spring.
  6. Raghuram G. Rajan & Luigi Zingales, . "Financial Dependence and Growth," CRSP working papers 344, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  7. Greenwood, J. & Jovanovic, B., 1988. "Financial Development, Growth, And The Distribution Of Income," RCER Working Papers 131, University of Rochester - Center for Economic Research (RCER).
  8. Paul A. Gompers & Joy L. Ishii & Andrew Metrick, 2002. "Corporate Governance and Equity Prices," Center for Financial Institutions Working Papers, Wharton School Center for Financial Institutions, University of Pennsylvania 02-32, Wharton School Center for Financial Institutions, University of Pennsylvania.
  9. Oliver Hart & John Moore, 1998. "Default And Renegotiation: A Dynamic Model Of Debt," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 113(1), pages 1-41, February.
  10. Dewatripont, Mathias & Tirole, Jean, 1994. "A Theory of Debt and Equity: Diversity of Securities and Manager-Shareholder Congruence," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 109(4), pages 1027-54, November.
  11. Larry Lang & Eli Ofek & Rene M. Stulz, 1995. "Leverage, Investment, and Firm Growth," NBER Working Papers 5165, National Bureau of Economic Research, Inc.
  12. Raghuram G. Rajan & Luigi Zingales, 1994. "What Do We Know About Capital Structure? Some Evidence from International Data," NBER Working Papers 4875, National Bureau of Economic Research, Inc.
  13. Christopher Hennessy & Toni Whited, 2004. "Debt Dynamics," 2004 Meeting Papers 592, Society for Economic Dynamics.
  14. Hart, Oliver & Moore, John, 1990. "Property Rights and the Nature of the Firm," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 98(6), pages 1119-58, December.
  15. Brown, David T, 1989. "Claimholder Incentive Conflicts in Reorganization: The Role of Bankruptcy Law," Review of Financial Studies, Society for Financial Studies, vol. 2(1), pages 109-23.
  16. Levine, Ross, 2005. "Finance and Growth: Theory and Evidence," Handbook of Economic Growth, in: Philippe Aghion & Steven Durlauf (ed.), Handbook of Economic Growth, edition 1, volume 1, chapter 12, pages 865-934 Elsevier.
  17. Stulz, ReneM., 1988. "Managerial control of voting rights : Financing policies and the market for corporate control," Journal of Financial Economics, Elsevier, Elsevier, vol. 20(1-2), pages 25-54, January.
  18. Berglof, Erik & von Thadden, Ernst-Ludwig, 1994. "Short-Term versus Long-Term Interests: Capital Structure with Multiple Investors," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 109(4), pages 1055-84, November.
  19. Drew Fudenberg & Jean Tirole, 1991. "Game Theory," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262061414, December.
  20. Kaplan, Steven & Strömberg, Per Johan, 2000. "Financial Contracting Theory Meets The Real World: An Empirical Analysis Of Venture Capital Contracts," CEPR Discussion Papers, C.E.P.R. Discussion Papers 2421, C.E.P.R. Discussion Papers.
  21. Fluck, Zsuzsanna, 1998. "Optimal Financial Contracting: Debt versus Outside Equity," Review of Financial Studies, Society for Financial Studies, vol. 11(2), pages 383-418.
  22. Julian R. Franks & Kjell G. Nyborg & Walter N. Torous, 1996. "A Comparison of UK, US and German Insolvency Codes," Financial Management, Financial Management Association, Financial Management Association, vol. 25(3), Fall.
  23. Hovakimian, Armen & Opler, Tim & Titman, Sheridan, 2001. "The Debt-Equity Choice," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 36(01), pages 1-24, March.
  24. Aghion, Philippe & Bolton, Patrick, 1992. "An Incomplete Contracts Approach to Financial Contracting," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 59(3), pages 473-94, July.
  25. Eugene F. Fama, 2002. "Testing Trade-Off and Pecking Order Predictions About Dividends and Debt," Review of Financial Studies, Society for Financial Studies, vol. 15(1), pages 1-33, March.
  26. von Thadden, Ernst-Ludwig, 1995. "Long-Term Contracts, Short-Term Investment and Monitoring," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 62(4), pages 557-75, October.
  27. Weiss, Lawrence A., 1990. "Bankruptcy resolution: Direct costs and violation of priority of claims," Journal of Financial Economics, Elsevier, Elsevier, vol. 27(2), pages 285-314, October.
  28. Harris, Milton & Raviv, Artur, 1988. "Corporate control contests and capital structure," Journal of Financial Economics, Elsevier, Elsevier, vol. 20(1-2), pages 55-86, January.
  29. Pierre Mella-Barral & William R M Perraudin, 1993. "Strategic Debt Service," CEPR Financial Markets Paper, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ 0039, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ.
  30. Bolton, Patrick & Scharfstein, David S, 1990. "A Theory of Predation Based on Agency Problems in Financial Contracting," American Economic Review, American Economic Association, vol. 80(1), pages 93-106, March.
  31. Stewart C. Myers, 2000. "Outside Equity," Journal of Finance, American Finance Association, American Finance Association, vol. 55(3), pages 1005-1037, 06.
  32. Myers, Stewart C., 1977. "Determinants of corporate borrowing," Journal of Financial Economics, Elsevier, Elsevier, vol. 5(2), pages 147-175, November.
  33. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-29, May.
  34. Zender, Jaime F, 1991. " Optimal Financial Instruments," Journal of Finance, American Finance Association, American Finance Association, vol. 46(5), pages 1645-63, December.
  35. Bergman, Yaacov Z. & Callen, Jeffrey L., 1991. "Opportunistic underinvestment in debt renegotiation and capital structure," Journal of Financial Economics, Elsevier, Elsevier, vol. 29(1), pages 137-171, March.
  36. Franks, Julian R & Torous, Walter N, 1989. " An Empirical Investigation of U.S. Firms in Reorganization," Journal of Finance, American Finance Association, American Finance Association, vol. 44(3), pages 747-69, July.
  37. Burkart, Mike & Gromb, Denis & Panunzi, Fausto, 1997. "Large Shareholders, Monitoring, and the Value of the Firm," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 112(3), pages 693-728, August.
  38. Bolton, Patrick & Scharfstein, David S, 1996. "Optimal Debt Structure and the Number of Creditors," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 104(1), pages 1-25, February.
  39. Elazar Berkovitch & Ronen Israel & Yossef Spiegel, 2000. "Managerial Compensation and Capital Structure," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 9(4), pages 549-584, December.
  40. Berkovitch, Elazar & Israel, Ronen & Zender, Jaime F., 1998. "The Design of Bankruptcy Law: A Case for Management Bias in Bankruptcy Reorganizations," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 33(04), pages 441-464, December.
  41. Klein, Benjamin & Crawford, Robert G & Alchian, Armen A, 1978. "Vertical Integration, Appropriable Rents, and the Competitive Contracting Process," Journal of Law and Economics, University of Chicago Press, University of Chicago Press, vol. 21(2), pages 297-326, October.
Full references (including those not matched with items on IDEAS)

Citations

Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
as in new window

Cited by:
  1. Mueller, Elisabeth, 2005. "Benefits of Control, capital structure and company growth," ZEW Discussion Papers 05-55 [rev.], ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  2. Hans K. Hvide & Todd Kaplan, 2003. "A Theory of Capital Structure with Strategic Defaults and Priority Violations," Microeconomics, EconWPA 0311001, EconWPA.
  3. Ronald W. Anderson & Kjell G. Nyborg, 2002. "Agency and the Pace of Adoption of New Techniques," Recherches économiques de Louvain, De Boeck Université, De Boeck Université, vol. 68(1), pages 203-220.
  4. Ronald W. Anderson & M. Cecilia Bustamante & Stéphane Guibaud, 2012. "Agency, Firm Growth, and Managerial Turnover," FMG Discussion Papers, Financial Markets Group dp711, Financial Markets Group.
  5. Timothy Fogarty & Michel Magnan & Garen Markarian & Serge Bohdjalian, 2009. "Inside Agency: The Rise and Fall of Nortel," Journal of Business Ethics, Springer, Springer, vol. 84(2), pages 165-187, January.
  6. Julia Hirsch & Uwe Walz, 2009. "Financing Decisions Along a Firm’s Life Cycle: Debt as a Commitment Device," Working Papers, Universidad Iberoamericana, Department of Economics 0409, Universidad Iberoamericana, Department of Economics.
  7. Kjell G. Nyborg & Ron Anderson, 2001. "Financial Development, Agency and the Pace of Adoption of New Techniques," FMG Discussion Papers, Financial Markets Group dp389, Financial Markets Group.
  8. Ronald W. Anderson & Maria Cecilia Bustamante & Stéphane Guibaud, 2012. "Agency, firm growth, and managerial turnover," LSE Research Online Documents on Economics, London School of Economics and Political Science, LSE Library 43144, London School of Economics and Political Science, LSE Library.

Lists

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

Statistics

Access and download statistics

Corrections

When requesting a correction, please mention this item's handle: RePEc:cpr:ceprdp:2920. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ().

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.