Asset liquidity, capital structure, and secured debt

Morellec, Erwan

doi:10.1016/s0304-405x(01)00059-9

Cited by 235 publications

(137 citation statements)

References 24 publications

(15 reference statements)

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“…Many studies dealing with dynamic decisions under debt either de facto assume or derive such policies as optimal (see, e.g., Babich and Sobel 2004, Gigler et al 2009, Hart and Moore 1998, Morellec 2001, Swinney and Netessine 2009. Furthermore, as one might intuitively expect, the threshold d fb is increasing in q and s and decreasing in M , confirming that the propensity to liquidate increases with order quantity and liquidation value, but decreases with the second period market strength.…”

Section: First Best Liquidation Policymentioning

confidence: 75%

Is Operating Flexibility Harmful Under Debt?

2017

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We study the inefficiencies stemming from a firm's operating flexibility under debt. We find that flexibility in replenishing or liquidating inventory, by providing risk-shifting incentives, could lead to borrowing costs that erase more than one-third of the firm's value. In this context, we examine the effectiveness of practical and widely used covenants in restoring firm value by limiting such risk-shifting behavior. We find that simple financial covenants can fully restore value for a firm that possesses a midseason inventory liquidation option. In the presence of added flexibility in replenishing or partially liquidating inventory, financial covenants fail, but simple borrowing base covenants successfully restore firm value. Explicitly characterizing optimal covenant tightness for all these cases, we find that better market conditions, such as lower inventory depreciation rate, higher gross margins, or increased product demand, are typically associated with tighter covenants. Our results suggest that inventory-heavy firms can reap the full benefits of additional operating flexibility, irrespective of their leverage, by entering simple debt contracts of the type commonly employed in practice. For such contracts to be effective, however, firms with enhanced flexibility and/or operating in better markets must also be willing to abide by more and/or tighter covenants. AbstractWe study the inefficiencies stemming from a firm's operating flexibility under debt. We find that flexibility in replenishing or liquidating inventory, by providing risk shifting incentives, could lead to borrowing costs that erase more than a third of the firm's value. In this context, we examine the effectiveness of practical and widely used covenants in restoring firm value by limiting such risk shifting behavior. We find that simple financial covenants can fully restore value for a firm that possesses a mid-season inventory liquidation option. In the presence of added flexibility in replenishing or partially liquidating inventory, financial covenants fail, but simple borrowing base covenants successfully restore firm value. Explicitly characterizing optimal covenant tightness for all these cases, we find that better market conditions, such as lower inventory depreciation rate, higher gross margins or increased product demand, are typically associated with tighter covenants. Our results suggest that inventory-heavy firms can reap the full benefits of additional operating flexibility, irrespective of their leverage, by entering simple debt contracts of the type commonly employed in practice. For such contracts to be effective, however, firms with enhanced flexibility and/or operating in better markets must also be willing to abide by more and/or tighter covenants.

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Section: First Best Liquidation Policymentioning

confidence: 75%

Is Operating Flexibility Harmful Under Debt?

2017

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“…This outcome is reinforced by the finding of Cheung et al (2015) who further suggest that stock market liquidity is relevant for firm value through corporate governance. A number of papers focus on examining the relationship between stock market liquidity and the capital structure decision of firms (Morellec 2001;Lesmond et al 2008;Bharath et al 2009;Lipson & Mortal 2009;Sibilkov 2009). These papers argue that firm managers tend to be influenced by stock market signal in their corporate finance decisions.…”

Section: Literature Reviewmentioning

confidence: 99%

Stock Market Liquidity and Firm Investment: Evidence from Vietnam

Ha¹,

Vo²

2017

JIBE

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It is interesting to explore whether corporate managers follow stock market signals when making corporate financial decisions. However, the literature concerning the relationship between stock market liquidity and corporate investment is still limited. This paper investigates the impact of stock liquidity on firm investment in the Vietnamese context, where stock market has grown at a significant pace in the recent years but the finance literature seems to ignore this small emerging economy. This relationship is tested in a panel of firms listed on the Vietnam Stock Market over an extended time period. We aim to achieve more robust estimation results by employing the econometric technique of GMM estimator for panel data analysis. Moreover, we use a number of indicators to proxy for firm investment including both the aggregated indicators and disaggregated indicators. Consistent with previous findings, we find that corporate managers use market liquidity as an input for firm investment decision. However, our results are different from previous findings of papers employing advanced countries data in the outcome that stock market liquidity affects different investment growth indicators differently. More importantly, these findings are fully explainable by the context of emerging markets.

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“…This implies that, after the takeover, shareholders' only decision is to select the firm's default policy. Throughout the paper, we consider a stock-based definition of default whereby shareholders inject funds in the firm as long as equity value is positive (as in Leland, 1994;Mello and Parsons, 1992;Morellec, 2001). This condition implies that shareholders default on their debt obligations the first time equity value is equal to zero.…”

Section: Leverage and The Outcome Of The Takeover Contestmentioning

confidence: 99%

Financing and takeovers

Morellec

Zhdanov

2008

Journal of Financial Economics

118

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This paper analyzes the interaction between financial leverage and takeover activity. We develop a dynamic model of takeovers in which the financing strategies of bidding firms and the timing and terms of takeovers are jointly determined. In the paper, capital structure plays the role of a commitment device, and determines the outcome of the acquisition contest. We demonstrate that there exists an asymmetric equilibrium in financing policies with endogenous leverage, bankruptcy, and takeover terms, in which the bidder with the lowest leverage wins the takeover contest. Based on the resulting equilibrium, the model generates a number of new predictions. In particular, the model predicts that the leverage of the winning bidder is below the industry average and that acquirers should lever up after the takeover consummation. The model also relates the dispersion in leverage ratios to various industry characteristics, such as cash flow volatility or bankruptcy costs. r

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Asset liquidity, capital structure, and secured debt

Cited by 235 publications

References 24 publications

Is Operating Flexibility Harmful Under Debt?

Is Operating Flexibility Harmful Under Debt?

Stock Market Liquidity and Firm Investment: Evidence from Vietnam

Financing and takeovers

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