Abstract

http://ssrn.com/abstract=99580
 
 

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Agency Cost Of Free Cash Flow, Corporate Finance, and Takeovers


Michael C. Jensen


Harvard Business School; Social Science Electronic Publishing (SSEP), Inc.; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)


American Economic Review, Vol. 76, No. 2, May 1986

Abstract:     
The interests and incentives of managers and shareholders conflict over such issues as the optimal size of the firm and the payment of cash to shareholders. These conflicts are especially severe in firms with large free cash flows--more cash than profitable investment opportunities. The theory developed here explains 1) the benefits of debt in reducing agency costs of free cash flows, 2) how debt can substitute for dividends, 3) why diversification programs are more likely to generate losses than takeovers or expansion in the same line of business or liquidation-motivated takeovers, 4) why the factors generating takeover activity in such diverse activities as broadcasting and tobacco are similar to those in oil, and 5) why bidders and some targets tend to perform abnormally well prior to takeover.

Number of Pages in PDF File: 15

Keywords: Dividend policy, Corporate Payout Policy, Optimal Capital Structure, Optimal Debt, Reivestment Policy, Overinvestment

JEL Classification: D23, D24, D82, G31, G34, L21, L22

Accepted Paper Series


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Date posted: March 25, 1999  

Suggested Citation

Jensen, Michael C., Agency Cost Of Free Cash Flow, Corporate Finance, and Takeovers. American Economic Review, Vol. 76, No. 2, May 1986. Available at SSRN: http://ssrn.com/abstract=99580 or http://dx.doi.org/10.2139/ssrn.99580

Contact Information

Michael C. Jensen (Contact Author)
Harvard Business School ( email )
Soldiers Field
Negotiations, Organizations & Markets
Boston, MA 02163
United States
617-510-3363 (Phone)
305-675-3166 (Fax)
HOME PAGE: http://drfd.hbs.edu/fit/public/facultyInfo.do?facInfo=ovr&facId=6484
Social Science Electronic Publishing (SSEP), Inc. ( email )
7858 Sanderling Road
Sarasota, FL 34242
United States
617-510-3363 (Phone)
305 675-3166 (Fax)
HOME PAGE: http://ssrn.com/author=9

National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
European Corporate Governance Institute (ECGI) ( email )
c/o ECARES ULB CP 114
B-1050 Brussels
Belgium
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