An exact solution for the investment and value of a firm facing uncertainty, adjustment costs, and irreversibility

Andrew B. Abel; Janice C. Eberly

doi:10.1016/s0165-1889(97)00005-5

An exact solution for the investment and value of a firm facing uncertainty, adjustment costs, and irreversibility

Andrew B. Abel^*, Janice C. Eberly

^*Corresponding author for this work

Finance

Research output: Contribution to journal › Article › peer-review

57 Scopus citations

Abstract

This paper derives closed-form solutions for the investment and value of a competitive firm with a constant-returns-to-scale production function and convex costs of adjustment. Solutions are derived for the case of irreversible investment as well as for reversible investment. Optimal investment is a non-decreasing function of q, the shadow value of capital. Relative to the case of reversible investment, the introduction of irreversibility does not affect q, but it reduces the fundamental value of the firm.

Original language	English (US)
Pages (from-to)	831-852
Number of pages	22
Journal	Journal of Economic Dynamics and Control
Volume	21
Issue number	4-5
DOIs	https://doi.org/10.1016/s0165-1889(97)00005-5
State	Published - May 1997

Funding

The authors thank the anonymous referees and participants at the Penn Macro Lunch Group for helpful comments and the National Science Foundation for financial support. Eberly also thanks a Sloan Foundation Fellowship.

Keywords

Investment
Irreversibility

ASJC Scopus subject areas

Economics and Econometrics
Control and Optimization
Applied Mathematics

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10.1016/s0165-1889(97)00005-5

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abstract = "This paper derives closed-form solutions for the investment and value of a competitive firm with a constant-returns-to-scale production function and convex costs of adjustment. Solutions are derived for the case of irreversible investment as well as for reversible investment. Optimal investment is a non-decreasing function of q, the shadow value of capital. Relative to the case of reversible investment, the introduction of irreversibility does not affect q, but it reduces the fundamental value of the firm.",

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AU - Abel, Andrew B.

AU - Eberly, Janice C.

N1 - Funding Information: The authors thank the anonymous referees and participants at the Penn Macro Lunch Group for helpful comments and the National Science Foundation for financial support. Eberly also thanks a Sloan Foundation Fellowship.

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Y1 - 1997/5

N2 - This paper derives closed-form solutions for the investment and value of a competitive firm with a constant-returns-to-scale production function and convex costs of adjustment. Solutions are derived for the case of irreversible investment as well as for reversible investment. Optimal investment is a non-decreasing function of q, the shadow value of capital. Relative to the case of reversible investment, the introduction of irreversibility does not affect q, but it reduces the fundamental value of the firm.

AB - This paper derives closed-form solutions for the investment and value of a competitive firm with a constant-returns-to-scale production function and convex costs of adjustment. Solutions are derived for the case of irreversible investment as well as for reversible investment. Optimal investment is a non-decreasing function of q, the shadow value of capital. Relative to the case of reversible investment, the introduction of irreversibility does not affect q, but it reduces the fundamental value of the firm.

KW - Investment

KW - Irreversibility

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JF - Journal of Economic Dynamics and Control

IS - 4-5

ER -

An exact solution for the investment and value of a firm facing uncertainty, adjustment costs, and irreversibility

Abstract

Funding

Keywords

ASJC Scopus subject areas

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