R&D Financing and the Boundary and Ownership Structure of the Firm

Absrtact: This paper analyzes the impact of a firm’s external financial environment and the feature of its investment projects on the firm’s boundary and ownership structure. Our theory highlights the costs of a full ownership over an asset in destroying the owner’s commitment capacity. More specifically, if a firm finances a risky R&D project jointly with other financiers, informational asymmetries and conflicts of interest among co-financiers can be used as a commitment device to stop a bad project when it is discovered; but such a commitment would be lost if a firm choose to own and finance a project. Trading the costs of full ownership with those of a partial ownership through joint financing, which depend on the external financial environment, large firms in a developed financial environment optimally choose to a full ownership of less risky R&D projects. In an underdeveloped financial environment, however, joint ownership is often too costly to be chosen regardless the risk level of R&D projects.

R&D Financing and the Boundary and Ownership Structure of the Firm.pdf