Equity finance, adverse selection and product market competition

Erlend Nier

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: This paper analyses the effect of asymmetric information between a firm and its outside investors on the firm's competitive position in a model where first-period competition is followed by a financing stage a la Myers and Majluf (1984). In our model, interim profit generated by the competition stage takes the role of financial slack and determines the extent to which external equity finance is required for a new investment opportunity. I consider the full set of equilibria in our version of the Myers and Majluf model and formally analyse financial slack as a comparative statics variable. Using this, I derive the firm's first period objective from first principles. In contrast to models of predatory behavior, I find that in the presence of an adverse selection problem the need to finance externally may provide a strategic benefit rather than a strategic disadvantage. The reason is that the adverse selection problem may induce speculative behavior, which will make the firm more aggressive vis a vis its rival.

JEL-codes: D82 G30 L13 (search for similar items in EconPapers)
Pages: 45 pages
Date: 1999-09-01
References: Add references at CitEc
Citations:

Downloads: (external link)
http://eprints.lse.ac.uk/119115/ Open access version. (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:119115

Access Statistics for this paper

More papers in LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library LSE Library Portugal Street London, WC2A 2HD, U.K.. Contact information at EDIRC.
Bibliographic data for series maintained by LSERO Manager ().