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Investment timing with fixed and proportional costs of external financing

Author

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  • Michi Nishihara

    (Graduate School of Economics, Osaka University)

  • Takashi Sshibata

    (Graduate School of Social Sciences, Tokyo Metropolitan University)

Abstract

We develop a dynamic model in which a firm exercises an option to expand production with cash balance and costly external funds. While related papers explain their results only by numerical examples, we analytically prove the following results. In the presence of only a proportional cost of external financing, the firm with more cash balance invests earlier; however, the presence of both proportional and fixed costs leads to a non-monotonic relation between the investment time and cash balance. The firm with more cash balance invests later to save a fixed cost, particularly when the cash balance is close to the investment cost. Our results can potentially account for a variety of empirical results concerning the relation between investment volume and financing constraints.

Suggested Citation

  • Michi Nishihara & Takashi Sshibata, 2011. "Investment timing with fixed and proportional costs of external financing," Discussion Papers in Economics and Business 11-29, Osaka University, Graduate School of Economics.
    • Handle: RePEc:osk:wpaper:1129
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    References listed on IDEAS

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    Cited by:

    1. Nishihara, Michi & Shibata, Takashi, 2013. "The effects of external financing costs on investment timing and sizing decisions," Journal of Banking & Finance, Elsevier, vol. 37(4), pages 1160-1175.

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    More about this item

    Keywords

    Real options; investment timing; costly external financing; growth option; optimal stopping.;
    All these keywords.

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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