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Real and Financial Decisions of a Firm with Bankruptcy and Default: An Integration

  • Fumio Hayashi

This paper attempts to provide a framework for analyzing the interaction between real decisions (concerning investment and factor inputs)and financial decisions (concerning debt and new share issues) of a corporation. The model carries a rich menu of tax rates and explicitly incorporates bankruptcy and default. The firm's multi-period optimization problem is set up where real and financial decisions are simultaneously determined to maximize the value of the firm which is the market price of uncertain future dividends. The main results of the paper are as follows:if the firm's after-tax profits are small relative to investment, the firm finances new investment by retentions and debt; if they are large relative to investment, financing additional investment is done through new shares and debt; in the intermediate case, additional investment is financed entirely by debt.

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File URL: http://www.nber.org/papers/w1097.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 1097.

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Date of creation: Mar 1983
Date of revision:
Publication status: published as Hayashi, Fumio. "Corporate Finance Side of the Q Theory of Investment," Journal of Public Economics, Vol. 27, No. 3, August 1985, pp. 261-280.
Handle: RePEc:nbr:nberwo:1097
Note: EFG
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  1. Fumio Hayashi, 1981. "Tobin's Marginal q and Average a : A Neoclassical Interpretation," Discussion Papers 457, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  2. Robert S. Chirinko & Stephen R. King, 1985. "Hidden Stimuli to Capital Formation: Debt and the Incomplete Adjustment of Financial Returns," NBER Working Papers 1684, National Bureau of Economic Research, Inc.
  3. Alan J. Auerbach, 1980. "Wealth Maximization and the Cost of Capital," NBER Working Papers 0254, National Bureau of Economic Research, Inc.
  4. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-75, May.
  5. Stiglitz, Joseph E, 1969. "A Re-Examination of the Modigliani-Miller Theorem," American Economic Review, American Economic Association, vol. 59(5), pages 784-93, December.
  6. Benveniste, L M & Scheinkman, J A, 1979. "On the Differentiability of the Value Function in Dynamic Models of Economics," Econometrica, Econometric Society, vol. 47(3), pages 727-32, May.
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