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Investment and Finance when Liquidation is Costly

Allard Bruinshoofd () and Wilko Letterie ()

De Economist, 2004, vol. 152, issue 1, 45 pages

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.

Date: 2004
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