Investment Distortions and the Value of the Government's Tax Claim
41 Pages Posted: 13 Jul 2009 Last revised: 3 Feb 2016
Date Written: July 13, 2009
This study integrates the government in the context of company valuation. Our framework allows to analyze and to quantify the risk-sharing effects and conflicts of interest between the government and the shareholders when firms follow different financial policies. We provide novel evidence that firms with fixed future levels of debt might invest more than socially desirable. Economically, this happens if the gain in tax-shields is big enough to outweigh the loss in the unlevered firm value. Our findings have implications for the practice of investment subsidy programs provided by the government to avoid fostering investments beyond the socially optimal level.
Keywords: corporate tax claim, company valuation, optimal investment, cost of capital
JEL Classification: G31, G32, G38, H21, H25, H6
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