A finite horizon model of industrial exit is developed. After an initial lag, most exits are by young firms. The duration of the lag is positively related to sunk entry costs, but not due to the fallacy of sunk costs. The conception of entry differs from previous research; as a result, not all entrants are identical; and firm size affects the rate of learning. On average, larger new firms last longer. Entrepreneurs in declining firms act more lazily as the firm declines. A number of empirical observations about declining firms are organized by the model.

It is well documented that stock prices on ex-dividend days drop by less than the value of the dividend, on average. This has commonly been attributed to the effect of tax clienteles. We examine data from the Hong Kong stock market, where neither dividends nor capital gains are taxed. As in the U.S., the average stock price drop is less than the value of the dividend; specifically, the average dividend for the period 1980–1993 is HK 0.12 and the average price drop is HK 0.06. We are able to account for this both theoretically and empirically through market microstructure arguments.

Extensive empirical research concerning the impact of taxes on corporate decisions has had trouble identifying seemingly obvious effects. Perhaps the problem is that the seemingly obvious tax predictions are not quite right. We provide an equilibrium model with both corporate and personal taxes. In the steady-state equilibrium, the corporate tax rate affects the level of production despite interest deductibility at the firm level, but not household-level taxes on interest earnings or dividends. We prove several other tax irrelevance results and document a Laffer curve in the corporate tax rate.

[We examine the predictive power of equilibrium dominance in experimental markets where firms with investment opportunities have an informational advantage over potential investors and are permitted to purchase a money-burning signal. Equilibrium dominance often fails to predict well when a Pareto-superior sequential equilibrium is also available. Instead, equilibrium selection appears to be related to the potential earnings of a more valuable firm that can signal its type successfully by defecting from the sequential equilibrium. Potential investors formulate their bids for firm equity based primarily on expectations formed adaptively in response to signaling choices made by firms.]

[This study investigates experimental financial markets in which firms possess more information than do potential investors. Firms were given opportunities to undertake positive net present value projects which they could either forgo or finance by selling equity. Auctions were conducted among the investors for the right to finance the projects. When the theoretical equilibrium was unique, theory predicted well. When theory permitted pooling, separation, and semiseparation, only the more efficient pooling equilibrium was observed. The domination of the pooling equilibrium was robust to different experimental experiences by participants. When available, signals were used by good firms to distinguish themselves from bad.]

The inverse relation between leverage and profitability is widely regarded as a serious defect of the trade-off theory. We show that the defect is not with the theory but with the use of a leverage ratio in which profitability affects both the numerator and the denominator. Profitability directly increases the value of equity. Firms do take the predicted offsetting actions. They issue debt and repurchase equity when profitability rises, and retire debt and issue equity when profitability falls. Consistent with variable transactions costs, the adjustment is not generally sufficient to fully undo the profitability shocks. Accordingly, on average the leverage ratio falls as profitability rises.

The predictability of rates of return on gold and silver are examined. Econometric tests do not reject the martingale hypothesis for either asset. This failure to reject is shown to be misleading. Correlation dimension estimates indicate a structure not captured by ARCH. The correlation dimension is between 6 and 7 while the Kolmogorov entropy is about 0·2 for both assets. The evidence is consistent with a nonlinear deterministic data generating process underlying the rates of return. The evidence is certainly not sufficient to rule out the possibility of some degree of randomness being present.

Do bond issuers successfully time the market? To answer this question, we compare market conditions on an issue day with conditions on days in a window around the issue day. We find that compared with windows of 21 days around issue days, bond issuers time the risk-free rate better than pure chance, with an average gain of 8 basis points; bond issuers also time the CDS spread better than pure chance, with an average gain of 12 basis points. Issuers who issue bonds more frequently do better than less frequent issuers do. Both risk-free rates and CDS spreads are lower on days when shelf-registered bonds are issued than they are on the days surrounding the issue days. Only CDS spreads are lower on days when privately placed bonds are issued.

Using a comprehensive set of news stories, we find a stark difference in market responses to positive and negative price shocks accompanied by new information. When there is a news story about a firm, positive price shocks are followed by reversal, while negative ones result in drift. This is interpreted as the stock market overreaction to good news and underreaction to bad news. These seemingly contradictory results can be explained in a single framework, considering the interaction of retail investors with attention bias, and arbitrageurs with short-run capital constraints. Consistent with this hypothesis, we find that both patterns are stronger when the attention bias is stronger, and when the arbitrage capital is scarce.

In a standard q-theory model, corporate investment is negatively related to the cost of capital. Empirically, we find that the weighted average cost of capital matters for corporate investment. The form of the impact depends on how the cost of equity is measured. When the capital asset pricing model (CAPM) is used, firms with a high cost of equity invest more. When the implied cost of capital is used, firms with a high cost of equity invest less. The implied cost of capital can better reflect the time-varying required return on capital. The CAPM measure reflects forces that are outside the standard model.