How do firms finance their investments?: The relative importance of equity issuance and debt contracting costs |
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| Authors: | Vladimir A Gatchev Paul A Spindt Vefa Tarhan |
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| Institution: | 1. Aegon, The Hague, the Netherlands;2. Fisher College of Business, The Ohio State University, Columbus, OH 43210, USA;3. National Bureau of Economic Research (NBER), Cambridge, MA 02138, USA;4. European Corporate Governance Institute (ECGI), Brussels, Belgium;5. Rotterdam School of Management, Erasmus University, Rotterdam, the Netherlands;1. Owen Graduate School of Management, Vanderbilt University, Nashville, TN 37203, USA;2. School of Finance, Shanghai University of Finance and Economics, Shanghai 200433, China;1. Florida Atlantic University, College of Business, Boca Raton, FL 33431, United States;2. University of Missouri, Trulaske College of Business, Columbia, MO 65201, United States |
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| Abstract: | This paper examines the financing decisions of firms in response to changes in investments and profits. We find that information frictions play important roles in firms' financing decisions. However, we find no evidence that asymmetric information about the value of a firm's assets causes equity to be used only as a last resort. Indeed equity is the predominant source of finance in situations, such as profit shortfalls, investment in intangible assets, and internally generated growth opportunities, where informational asymmetries and agency costs are likely to be high. We also find that firms respond asymmetrically to positive and negative profit shocks. In financing fixed assets, high asymmetric information firms use more short-term debt and less long-term debt, whereas firms with high potential agency problems use significantly more equity and less long-term debt and cash. |
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