Exit strategies and price uncertainty: a Greenian approach

In this paper we study the problem of how much demand must fall for a price-taking, risk-neutral and value-maximizing firm to go out of business. The problem of the firm is formulated as one of optimal stopping. We derive the necessary condition for stopping by relying on the theory of linear diffusions and potentials independently on the smooth-fit principle. We show that the stopping boundary is attained at a point where the marginal costs of continuing production equate the expected value of future productive options, Therefore, our model predicts that at the optimal threshold the net cash flow of the firm is negative and that the operating revenues may be well below the variable costs. (C) 1998 Elsevier Science S.A.