A Dynamic Model of Optimal Capital Structure

Posted: 14 Jul 2008

See all articles by Sheridan Titman

Sheridan Titman

University of Texas at Austin - Department of Finance; National Bureau of Economic Research (NBER)

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business

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Abstract

This paper presents a continuous time model of a firm that can dynamically adjust both its capital structure and its investment choices. In the model we endogenize the investment choice as well as firm value, which are both determined by an exogenous price process that describes the firm's product market. Within the context of this model we explore cross-sectional as well as time-series variation in debt ratios. We pay particular attention to interactions between financial distress costs and debtholder/equityholder agency problems and examine how the ability to dynamically adjust the debt ratio affects the deviation of actual debt ratios from their targets. Regressions estimated on simulated data generated by our model are roughly consistent with actual regressions estimated in the empirical literature.

Keywords: G32, G33, G35

Suggested Citation

Titman, Sheridan and Tsyplakov, Sergey, A Dynamic Model of Optimal Capital Structure. Review of Finance, Vol. 11, Issue 3, pp. 401-451, 2007. Available at SSRN: https://ssrn.com/abstract=1159305 or http://dx.doi.org/10.1093/rof/rfm017

Sheridan Titman (Contact Author)

University of Texas at Austin - Department of Finance ( email )

Red McCombs School of Business
Austin, TX 78712
United States
512-232-2787 (Phone)
512-471-5073 (Fax)

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business ( email )

Francis M. Hipp Building
Finance Department
Columbia, SC 29208
United States
803-777-4669 (Phone)
803-777-6876 (Fax)

HOME PAGE: http://dmsweb.moore.sc.edu/tsyplakov/

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