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Investment and Dividends under Irreversibility and Financial Constraints

Research finds that firms' investment and dividend policies are distorted by irreversibility and finance constraints. Whereas the existing literature examines these features separately, this paper considers their interaction. The main theoretical result concerns the separation of the investment and payout thresholds. The ordering of investment and distribution activities is endogenously determined and depends on the levels of capacity and cash balances in a manner consistent with a life- cycle interpretation of firm behaviour. The concavity of the revenue function is capital stock and the complementarily of the constraints drive these results. Important ramifications for empirical work on investment are discussed.

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Paper provided by Edinburgh School of Economics, University of Edinburgh in its series ESE Discussion Papers with number 55.

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Length: 39
Date of creation: Apr 2004
Date of revision:
Handle: RePEc:edn:esedps:55
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  1. Milne, Alistair & Robertson, Donald, 1996. "Firm behaviour under the threat of liquidation," Journal of Economic Dynamics and Control, Elsevier, vol. 20(8), pages 1427-1449, August.
  2. Abel, Andrew B & Eberly, Janice C, 1996. "Optimal Investment with Costly Reversibility," Review of Economic Studies, Wiley Blackwell, vol. 63(4), pages 581-93, October.
  3. Pindyck, Robert S., 1986. "Irreversible investment, capacity choice, and the value of the firm," Working papers 1802-86., Massachusetts Institute of Technology (MIT), Sloan School of Management.
  4. Merton H. Miller & Franco Modigliani, 1961. "Dividend Policy, Growth, and the Valuation of Shares," The Journal of Business, University of Chicago Press, vol. 34, pages 411.
  5. Carruth, Alan & Dickerson, Andrew & Henley, Andrew, 2000. " What Do We Know about Investment under Uncertainty?," Journal of Economic Surveys, Wiley Blackwell, vol. 14(2), pages 119-53, April.
  6. Bertola, Giuseppe, 1998. "Irreversible investment," Research in Economics, Elsevier, vol. 52(1), pages 3-37, March.
  7. Caballero, Ricardo J., 1999. "Aggregate investment," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 12, pages 813-862 Elsevier.
  8. Sarkar, Sudipto, 2000. "On the investment-uncertainty relationship in a real options model," Journal of Economic Dynamics and Control, Elsevier, vol. 24(2), pages 219-225, February.
  9. Guiso, L. & Parigi, G., 1996. "Investment and Demand Uncertainty," Papers 289, Banca Italia - Servizio di Studi.
  10. Robert S. Pindyck & Andrés Solimano, 1993. "Economic Instability and Aggregate Investment," NBER Chapters, in: NBER Macroeconomics Annual 1993, Volume 8, pages 259-318 National Bureau of Economic Research, Inc.
  11. R. Glenn Hubbard, 1998. "Capital-Market Imperfections and Investment," Journal of Economic Literature, American Economic Association, vol. 36(1), pages 193-225, March.
  12. Hellmann, Thomas & Stiglitz, Joseph, 2000. "Credit and equity rationing in markets with adverse selection," European Economic Review, Elsevier, vol. 44(2), pages 281-304, February.
  13. Hamermesh, Daniel S. & Pfann, Gerard Antonie, 1996. "Adjustment Costs in Factor Demand," CEPR Discussion Papers 1371, C.E.P.R. Discussion Papers.
  14. Scaramozzino, Pasquale, 1997. "Investment Irreversibility and Finance Constraints," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 59(1), pages 89-108, February.
  15. Eberly, Janice C. & Van Mieghem, Jan A., 1997. "Multi-factor Dynamic Investment under Uncertainty," Journal of Economic Theory, Elsevier, vol. 75(2), pages 345-387, August.
  16. Miller, Merton H & Rock, Kevin, 1985. " Dividend Policy under Asymmetric Information," Journal of Finance, American Finance Association, vol. 40(4), pages 1031-51, September.
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