Effects of Tax Depreciation on Optimal Firm Investment
CentER Discussion Paper Series No. 1999-58
Posted: 6 Aug 2000
Date Written: 1999
This paper studies how the difference between technical depreciation and tax depreciation affects the firm's optimal investment strategy. The objective is maximization of shareholder value. When tax depreciation differs from technical depreciation, an additional investment not only generates value due to the fact that the firm can produce more, but also due to the fact that an additional deferred tax liability arises. Two types of capital stock will therefore affect shareholder value, i.e. the replacement value of the assets and the tax base of the assets. We present a dynamic model of the firm with these two types of capital stock, and study the effects of the tax depreciation rate on the firm's optimal dynamic investment strategy, dividend policy, and long run capital stock level.
Keywords: Optimization, taxation, depreciation, investment, share valuation
JEL Classification: E22, G31, H25, C61
Suggested Citation: Suggested Citation