Risk-taking behavior with limited liability and risk aversion

We consider the problem of a risk-averse firm with limited liability. The firm must select the size of its investment in a risky project. We show that the optimal exposure to risk of the limited liability firm is always larger than under full liability. Moreover, there exists a positive lower bound on the value of the firm below which the firm will ''bet for resurrection''-that is, it will invest the largest positive amount in the risky project. We also consider the standard portfolio problem with more than one risky asset. We show that limited liability may induce the firm to specialize in mean-variance inefficient assets.