Essays in Corporate Finance

Prior research has been divided regarding how firms respond to bankruptcy risk, largely revolving around two competing forces. On the one hand, asset substitution encourages firms to increase the riskiness of assets to extract value from creditors. On the other, firms want to minimize bankruptcy risk, either by reducing cash flow risk or through increasing the size of the firm. I test these two theories using a natural experiment of chemicals used in production processes being newly identified as carcinogenic to explore how firms may respond to potential negative cash flow resulting from litigation risk. I use plantlevel chemical data to study firm exposure to risk. I examine how responses between firms of differing levels of chemical exposure may vary within the industry, how firm financial distress affects firm response and whether public and private firms respond differently. In general, my research provides support for the asset substitution theory. My first paper studies how investment response varies based on level of carcinogenic exposure. I find that firms with moderate levels of exposure make efforts to mitigate their cash flow risk and reduce their exposure. At the same time, firms with high levels of exposure increase their exposure and riskiness of future cash flows. These findings are consistent with asset substitution theory. My second paper analyzes the interaction of financial distress and risk exposure. I find that firms in a stronger financial position are more likely to limit their exposure by reducing the number of exposed facilities. On the other hand, not only do firms in weaker financial position not decrease their exposure, I find that, in some instances, they increase their exposure to carcinogens. This work again supports the theory of asset substitution. Finally, in my third paper, I explore if public firms respond differently to a potential negative cash flow shock than do private firms. I test whether existing public firms are more likely to attempt to minimize their cash flow risk and thus reduce their carcinogen exposure than are private firms. I do not find evidence that public firms respond differently to this shock than do private firms.

Air Entrainment in the Turbulent Ship Hull Boundary Layer

Turbulent fluctuations in the vicinity of the water free surface along a flat, vertically oriented surface-piercing plate are studied experimentally using a laboratory-scale experiment. In this experiment, a meter-wide stainless steel belt travels horizontally in a loop around two rollers with vertically oriented axes, which are separated by 7.5 meters. This belt device is mounted inside a large water tank with the water level set just below the top edge of the belt. The belt, rollers, and supporting frame are contained within a sheet metal box to keep the device dry except for one 6-meter-long straight test section between rollers. The belt is launched from rest with an acceleration of up to 3-g in order to quickly reach steady state velocity. This creates a temporally evolving boundary layer analogous to the spatially evolving boundary layer created along a flat-sided ship moving at the same velocity, with a length equivalent to the length of belt that has passed the measurement region since the belt motion began. Surface profile measurements in planes normal to the belt surface are conducted using cinematic Laser Induced Fluorescence and quantitative surface profiles are extracted at each instant in time. Using these measurements, free surface fluctuations are examined and the propagation behavior of these free surface ripples is studied. It is found that free surface fluctuations are generated in a region close to the belt surface, where sub-surface velocity fluctuations influence the behavior of these free surface features. These rapidly-changing surface features close to the belt appear to lead to the generation of freely-propagating waves far from the belt, outside the influence of the boundary layer. Sub-surface PIV measurements are performed in order to study the modification of the boundary layer flow field due to the effects of the water free surface. Cinematic planar PIV measurements are performed in horizontal planes parallel to the free surface by imaging the flow from underneath the tank, providing streamwise and wall-normal velocity fields. Additional planar PIV experiments are performed in vertical planes parallel to the belt surface in order to study the bahvior of streamwise and vertical velocity fields. It is found that the boundary layer grows rapidly near the free surface, leading to an overall thicker boundary layer close to the surface. This rapid boundary layer growth appears to be linked to a process of free surface bursting, the sudden onset of free surface fluctuations. Cinematic white light movies are recorded from beneath the water surface in order to determine the onset location of air entrainment. In addition, qualitative observations of these processes are made in order to determine the mechanisms leading to air entrainment present in this flow.

Essays on Financial Constraints, R&D Investments, and Competition

This dissertation consists of two chapters of theoretical studies that investigate the effect of financial constraints and market competition on research and development (R&D) investments. In the first chapter, I explore the impact of financial constraints on two different types of R&D investments. In the second chapter, I examine the impact of market competition on the relationship between financial constraints and R&D investments. In the first chapter, I develop a dynamic monopoly model to study a firm’s R&D strategy. Contrary to intuition, I show that a financially constrained firm may invest more aggressively in R&D projects than an unconstrained firm. Financial constraints introduce a risk that a firm may run out of money before its project bears fruit, which leads to involuntary termination on an otherwise positive-NPV project. For a company that relies on cash flow from assets in place to keep its R&D project alive, early success can be relatively important. I find that when the discovery process can be expedited by heavier investment (“accelerable” projects), a financially constrained company may find it optimal to “over”-invest in order to raise the probability of project survival. The over-investment will not happen if the project is only “scalable” (investment scales up payoffs). The model generates several testable implications regarding over-investment and project values. In the second chapter, I study the effects of competition on R&D investments in a duopoly framework. Using a homogeneous duopoly model where two unconstrained firms compete head to head in an R&D race, I find that competition has no effect on R&D investment if the project is not accelerable, and the competing firms are not constrained. In a heterogeneous duopoly model where a financially constrained firm competes against an unconstrained firm, I discover interesting strategic interactions that lead to preemption by the constrained firm in equilibrium. The unconstrained competitor responds to its constrained rival’s investment in an inverted-U shape fashion. When the constrained competitor has high cash flow risk, it accelerates the innovation in equilibrium, while the unconstrained firm invests less aggressively and waits for its rival to quit the race due to shortage of funds.