Dynamic Inventory Management with Short-Term Financing

Abstract

A large literature on corporate finance has paid sufficient attention on start-up and growing firms and tried to establish solution concepts for capital shortage problem.1 While financial and operational decisions are usually studied separately. As one of the most fundamental results in corporate finance, Modigliani–Miller (MM) proposes that in perfect capital markets, the firm’s capital structure and its financial decisions (e.g., the allocation between equity and debt) are independent of the firm’s investment and its operational decisions (e.g., inputs and outputs, the levels of inventory and capital). However, real capital markets are imperfect: there are taxes, information asymmetry, accounting costs, bankruptcy costs, and so on. In many cases, start-up and growing firms with limited capital should seek help from banks or other lenders for more capital available to fund operations.