Capital Structure and Corporate Failure Prediction: Theory and Applications

Abstract:     
This paper addresses the theoretical foundations of corporate failure prediction, using the neo-classical theory of capital structure as a starting point. The paper intends to demonstrate the feasibility of such an approach in a simple setting, i.e. by using a simple theoretical model and a limited empirical analysis. A model of optimal capital structure is constructed and rewritten as a model of default probability. Its empirical implications are derived and tested on a sample of Indonesian data. It is concluded that this approach clearly has its limitations, but also that may it be a valuable contribution compared to the multitude of theory-less empirical studies and a useful alternative to the default theory.

Number of Pages in PDF File: 20

Keywords: default probabilities, capital structures, corporate failure, logistic regression

JEL Classification: G31, G32

Accepted Paper Series