THE FINANCING AND INVESTMENT OF A LEVERED FIRM UNDER ASYMMETRIC INFORMATION

This research extends the literature on financing and investment under asymmetric information by considering the effect of initial leverage. Because decisions affect the value of outstanding bonds, realistic behaviors arise that are absent in extant unlevered analyses. Leverage may induce social improvements in investment. Further, a stock offering may be a positive signal if lower-value firms face greater default risk and thus have lower debt values. Conditions that support positive reactions to equity funding appear to be present in the early 1990s.