Information spillovers and capital structure: Theory and evidence

This dissertation studies the role of information spillovers across securities of a firm on the intertemporal patterns in security issuance and empirically provides evidence that financing costs of firms are affected by information production in stock markets.; In the first essay, I model the capital structure choice of firms in a dynamic setting and study the intertemporal patterns in security issuance. The model examines the interaction among information production technologies of different securities and the impact of information spillovers from public securities on the capital structure and long run financing costs of a firm. In the model, I show that firms use bank borrowing initially to minimize the lemons cost. Subsequently, when they meet the feasibility conditions for sustaining a market for their securities, they issue public equity (IPO) and then use either bank borrowing or bonds for subsequent financing rounds. This sequence of securities is optimally chosen to maximize the gains from information spillovers from public equity. Firms trade off the initial lemons cost of information sensitive public equity against the gains from having more informative stock prices arising from endogenous information production in financial markets. The information spillover gains occur through a reduction in (i) bank monitoring costs and (ii) adverse selection costs of future financing. This effect has implications for the sequencing of securities over the life of the firm, and in particular the decision to go public.; In the second essay, I provide empirical evidence that financing costs of firms are affected by information spillovers from stock markets, thereby demonstrating the value of informative stock prices to firms. Specifically, I show that the firms' bank borrowing costs are decreasing in measures of information production in stock markets. The spillover of information from public stock markets should reduce the cost of bank loans for publicly traded firms since the bank can monitor the firm more efficiently by supplementing its own information production with publicly available information such as stock prices. Controlling for firm and loan characteristics and sample selection issues, I find that the cost of bank borrowing is significantly higher for private firms in a sample of pre-IPO firms relative to a matched sample of public firms and relative to their cost of bank debt post-IPO. The results are validated in another sample of firms that go private and delist their stock. The borrowing costs are related to measures of information production in stock markets and the informativeness of the stock price.