The Effect of Capital Structure When Expected Agency Costs are Extreme

45 Pages Posted: 3 Sep 2001 Last revised: 23 Oct 2010

See all articles by Campbell R. Harvey

Campbell R. Harvey

Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER)

Karl V. Lins

University of Utah - Department of Finance

Andrew H. Roper

Compass Lexecon

Multiple version iconThere are 2 versions of this paper

Date Written: September 2001

Abstract

We provide new evidence that debt creates shareholder value for firms that face agency costs. Our tests are unique in two respects. First, we focus on a sample of firms with potentially extreme agency problems. We study emerging market firms where the routine use of pyramid ownership structures provides an acute separation of management cash flow rights and control rights. Second, we argue that not all debt is the same. Using new data on global debt issuance, we find that the type of debt that positively impacts shareholder value is the type that closely monitors management. This combination of a sample of firms with extreme expected agency problems and detailed information on the different types of debt allows us to construct powerful tests of whether debt can mitigate the effects of agency and information problems. Among other results, we find that the abnormal returns resulting from syndicated term loans (which provide monitoring) are significantly related to the extent of the separation of ownership and control. Our results are consistent with the idea that debt creates value because it reduces the agency costs associated with overinvestment.

Suggested Citation

Harvey, Campbell R. and Lins, Karl V. and Roper, Andrew H., The Effect of Capital Structure When Expected Agency Costs are Extreme (September 2001). NBER Working Paper No. w8452. Available at SSRN: https://ssrn.com/abstract=281857

Campbell R. Harvey (Contact Author)

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-7768 (Phone)

HOME PAGE: http://www.duke.edu/~charvey

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Karl V. Lins

University of Utah - Department of Finance ( email )

David Eccles School of Business
Salt Lake City, UT 84112
United States
801-585-3171 (Phone)
801-581-7214 (Fax)

Andrew H. Roper

Compass Lexecon ( email )

Mountain View, CA
United States

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