Growth Option Exercise and Capital Structure

AFA 2013 San Diego Meetings Paper

47 Pages Posted: 17 Nov 2011 Last revised: 1 Jan 2015

See all articles by Amiyatosh K. Purnanandam

Amiyatosh K. Purnanandam

University of Michigan, Stephen M. Ross School of Business

Uday Rajan

Stephen M. Ross School of Business, University of Michigan

Date Written: Decrmber 31, 2014

Abstract

We document that firms decrease their leverage when they convert growth options into tangible assets. We argue that the act of growth option exercise decreases information asymmetry about the firm, which in turn reduces the relative cost of issuing information-sensitive securities such as equity. We show that leverage is negatively correlated with unexpected capital expenditure, our proxy for growth option conversion. The negative relationship becomes stronger when the information environment of a firm deteriorates following a reduction in analyst coverage after a brokerage house merger. Overall, our findings are contrary to standard trade-off and pecking order theories, but are consistent with recent work on signaling and growth options.

Keywords: Growth Option, Capital Structure

JEL Classification: G32

Suggested Citation

Purnanandam, Amiyatosh K. and Rajan, Uday, Growth Option Exercise and Capital Structure (Decrmber 31, 2014). AFA 2013 San Diego Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1960184 or http://dx.doi.org/10.2139/ssrn.1960184

Amiyatosh K. Purnanandam (Contact Author)

University of Michigan, Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

Uday Rajan

Stephen M. Ross School of Business, University of Michigan ( email )

701 Tappan Street
Ann Arbor, MI 48109
United States
734-764-2310 (Phone)

HOME PAGE: http://webuser.bus.umich.edu/urajan

Register to save articles to
your library

Register

Paper statistics

Downloads
469
Abstract Views
2,928
rank
60,490
PlumX Metrics