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Investment and Finance when Liquidation is Costly

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Abstract

In this paper we investigate to what extent expected liquidation costs affect the dependence of a firm's investment decision on available finance. We hypothesise that comovement of firm and industry sales measures such costs, which create a premium on external finance and make investment more sensitive to the availability of internal funds. Supportive evidence for this conjecture is obtained from the investment behaviour of a sample of 206 large Dutch manufacturing firms observed during the period 1983-1996. We also demonstrate that our measure of expected liquidation costs has additional explanatory power over other proxies for the premium on external finance – like leverage, retention practice and firm size.

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Authors and Affiliations

  1. Research Department, De Nederlandsche Bank, P.O. Box 98, 1000 AB, Amsterdam, The Netherlands

    Allard Bruinshoofd

  2. Department of Management Sciences, Maastricht University, The Netherlands

    Wilko Letterie

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  1. Allard Bruinshoofd
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  2. Wilko Letterie
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Bruinshoofd, A., Letterie, W. Investment and Finance when Liquidation is Costly. De Economist 152, 21–45 (2004). https://doi.org/10.1023/B:ECOT.0000019526.85502.09

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  • DOI: https://doi.org/10.1023/B:ECOT.0000019526.85502.09

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