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The Relationship between the Level of Capital Expenditures and Firm Value

Published online by Cambridge University Press:  06 April 2009

Brett Trueman
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Abstract

When a firm's management needs to raise external capital in order to finance an investment project, it is likely to have better information about the project's future return than do potential investors. In such a case, as has been shown in the literature, management may be able to signal its information through the use of certain financial variables. However, the possibility that management may be able to use the level of investment in the project itself to signal their information has not been considered. The purpose of this paper is to examine this possibility. It is shown here that the level of capital investment may be able to perfectly reveal management's information, with a higher input level signalling more favorable information. It is further demonstrated that even in this equilibrium, financial variables still play an important role. Among other results, it is shown, in contrast to a conclusion of a study by Leland and Pyle, that in this setting the number of shares held by management may be negatively correlated with the favorableness of their information.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 21 , Issue 2 , June 1986 , pp. 115 - 129
Copyright
Copyright © School of Business Administration, University of Washington 1986

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References

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