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A Dynamic Model of Optimal Capital Structure

64 Pages Posted: 19 Nov 2002  

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business

Sheridan Titman

University of Texas at Austin - Department of Finance; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: November 25, 2005

Abstract

This paper presents a continuous time model of a firm that can dynamically adjust both its capital structure and its investment choices. The model extends the dynamic capital structure literature by endogenizing the investment choice as well as firm value, which are both determined by an exogenous price process that describes the firm's product market. Within the context of this model we explore interactions between financial distress costs and debtholder/equityholder agency problems and examine how the ability to dynamically adjust the capital structure choice affects both target debt ratios and the extent to which actual debt ratios deviate from their targets. In particular, we examine how financial distress and the firm's objectives, i.e., whether it makes choices to maximize total firm value versus equity value, influence the extent to which firms make financing choices that move them towards their target debt ratios.

Keywords: capital structure, investments, tradeoff, pecking order, market timing, mean-reversion, adjustment rate, depreciation rate, gold mining companies, transaction costs.

JEL Classification: G3, G30, G31, G32, G33, G34, G35

Suggested Citation

Tsyplakov, Sergey and Titman, Sheridan, A Dynamic Model of Optimal Capital Structure (November 25, 2005). McCombs Research Paper Series No. FIN-03-06. Available at SSRN: https://ssrn.com/abstract=332042 or http://dx.doi.org/10.2139/ssrn.332042

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business ( email )

Francis M. Hipp Building
Finance Department
Columbia, SC 29208
United States
803-777-4669 (Phone)
803-777-6876 (Fax)

HOME PAGE: http://dmsweb.moore.sc.edu/tsyplakov/

Sheridan Titman (Contact Author)

University of Texas at Austin - Department of Finance ( email )

Red McCombs School of Business
Austin, TX 78712
United States
512-232-2787 (Phone)
512-471-5073 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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