SMALL FIRM INVESTMENT AND FINANCING DECISIONS - AN OPTION VALUE APPROACH

This paper reviews and discusses recent developments undergone by inve stment theory, and tries to address both financial and real decisions within an uncertain environment, here, the Italian economy. According to the recent ''option value'' approach to investment, if differing de grees of reversibility characterize the accumulation process by groups of firms (small and larger firms), we should expect their investment decisions to differ under uncertainty. On the other hand, asset revers ibility has an influence on firm financing policy, given the observed relationship between asset and liability composition. Assuming a diffe rent degree of investment reversibility for small and larger firms, we explore how they react to interest rate uncertainty using the Italian experience during the 1980s as a benchmark. The main result of this p aper is that interest rate uncertainty exerts a negative influence on firms' investment demand. The relationship is stronger for large firms than for small firms. Another result is that firm leverage also shows a negative relationship with interest rate uncertainty.