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Corporate Finance
1. Theoretical Approaches
1.1. Corporate Finance in Arrow-Debreu World
? Complete market, perfect market, perfect competition, symmetric information, private
consumption
? Risk: risk sharing, risk pooling, technology shocks, individual vs aggregate shocks
? Lucas (1978): existence of equilibrium asset price
? Merton: continuous-time pricing model
? Option pricing
? Capital structure: debt/equity ratio
? Mehra-Prescott (1985): equity premium puzzle
? Incomplete market
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1.2. Asymmetric Information
? Akerlof (1970): market failure due to asymmetric information.
? Spence (1973): signaling
? Rothchild-Stiglitz (1976): screening
? Myerson (1979): revelation principle and mechanism design
1.3. Agency Problems
? Mirrlees (1974), Holmstrom (1978): unverifiable investment, IC conditions
? Standard contract theory: revenue-sharing contract.
? Multi-agent contract
? Optimal linear contract
? Dynamic contract
1.4. Incomplete Contract Approach
? Hart, Moors, Grossman: allocation of control rights is an alternative mechanism
? Coase, Williamson: transaction costs
? Option contract: ex-post option
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? Ex-ante efficiency vs ex-post efficiency, negotiation, renegotiation, bargaining powers,
cooperative game theory
2. Various Business Formats
2.1. Corporation
? Reality (Berle–Means 1932): large modern corporations tend to have separated ownership
and control.
? Separation of management and ownership
? Separation of income and control rights
? Economists: ownership and control should be bundled together.
2.2. Equity Joint Venture
? Popular in foreign direct investment
? Incentive and risk sharing issues
? Choice for a long-term cooperation?
2.3. Contractual Joint Venture
? Popular in the initial stage of foreign direct investment
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? Incentive and risk sharing issues
? No need for law protection?
? Choice for a short-term cooperation?
2.4. Venture Capital
? Popular in high-tech industries.
? Cross-border venture capital, a new trend?
2.5. Franchising
? Popular in retails and food chains.
? Transaction costs of management, asymmetric information, and incentives
2.6. Partnership
? A dying format? Dominated by the corporation format?
2.7. Outsourcing
? What are the issues?
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3. Applications
3.1. Venture Capital
? Popular mechanisms: staged financing, options, convertible securities, warrants, board
representations, voting rights, IPO
? Importance: E.g., in Jiangsu province, 99% of firms, 80% of output and 65% of labor
depend on venture capital
3.2. Foreign Direct Investment
? 合资, 合营, 合作, 独资, franchising, outsourcing
? Purpose: understanding and policy analysis
3.3. Private-Public Partnership
? Purpose: partial privatization for roads, bridges, tunnels, railways, water, electricity,
airlines
? Mechanisms: ownership arrangement, regulation, tax incentives, price control, lease,
purchase guarantee