Corporate Policies in a World with Information Asymmetry

We study the firm's financing and investment policies when the manager has private information about the firm's cash flows. Prior research in this area places specific restrictions on: i) the nature of the manager's private information and thus on the set of firms to which the theory applies, and ii) the set of securities that can be issued. This research relaxes both assumptions. Our generalization: i) identifies the economic primitives affecting the firm's debt-equity choice, ii) shows that a wide cross-section of firms prefers equity to debt even when information asymmetry (IA) is the only imperfection, iii) rationalizes several empirical findings, and iv) yields new insights about how the manager can minimize IA costs through operational decisions and financing innovation