Capital Structure and the Substitutability versus Complementarity Nature of Leases and Debt

Review of Finance, 2018, 1–37

Posted: 6 Mar 2018

See all articles by Brent W. Ambrose

Brent W. Ambrose

Pennsylvania State University

Thomas Emmerling

Zicklin School of Business, Baruch College - The City University of New York

Henry Hongren Huang

National Central University at Taiwan

Yildiray Yildirim

Zicklin School of Business, Baruch College - The City University of New York

Date Written: February 26, 2018

Abstract

The capital structure irrelevance argument of Modigliani and Miller (1958) implies that the use of debt or leases should have no impact on firm values. This classical argument leaves out several important considerations crucial for the result, in particular, counterparty credit risk. We re-examine the capital structure problem for firms that can utilize debt and leases in the presence of counterparty risk. Our numerical and empirical estimates show a negative termstructure of lease rates that steepens as a function of counterparty risk. Moreover, we document numerical evidence for the complementary relationship between debt and leases in the presence of counterparty risk.

Keywords: Leasing valuation, Credit risk, Endogenous default

JEL Classification: G32, G13, R3

Suggested Citation

Ambrose, Brent W. and Emmerling, Thomas and Huang, Henry Hongren and Yildirim, Yildiray, Capital Structure and the Substitutability versus Complementarity Nature of Leases and Debt (February 26, 2018). Review of Finance, 2018, 1–37. Available at SSRN: https://ssrn.com/abstract=3130369

Brent W. Ambrose

Pennsylvania State University ( email )

University Park, PA 16802-3306
United States
814-867-0066 (Phone)
814-865-6284 (Fax)

Thomas Emmerling

Zicklin School of Business, Baruch College - The City University of New York ( email )

One Bernard Baruch Way
Box C-403
New York, NY 10010
United States

HOME PAGE: http://zicklin.baruch.cuny.edu/faculty/profiles/thomas-j.-emmerling

Henry Hongren Huang

National Central University at Taiwan ( email )

No. 300, Zhongda Road
Chung-Li Taiwan, 32054
Taiwan

Yildiray Yildirim (Contact Author)

Zicklin School of Business, Baruch College - The City University of New York ( email )

55 Lexington Ave., Box B13-260
New York, NY 10010
United States

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