Debt Policy, Corporate Taxes, and Discount Rates

Grinblatt, Mark; Liu, Jun

doi:10.2139/ssrn.349060

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Debt Policy, Corporate Taxes, and Discount Rates

UCLA Finance Working Paper No. 14-02

34 Pages Posted: 13 Jun 2003

See all articles by Mark Grinblatt

Mark Grinblatt

University of California, Los Angeles (UCLA) - Finance Area; Yale University - International Center for Finance; National Bureau of Economic Research (NBER)

Jun Liu

University of California, San Diego (UCSD) - Rady School of Management

There are 2 versions of this paper

Date Written: November 7, 2002

Abstract

This paper studies the valuation of assets with debt tax shields when debt policy is a general time-dependent function of the asset's unlevered cash flows, value, and history. In a continuous-time setting, it shows that the value of a project's debt tax shield satisfies a partial differential equation, which simplifies to an easily solved ordinary differential equation for most plausible debt policies. A large class of cases exhibits closed-form solutions for the value of a levered asset, the value of its tax shield, and the appropriate tax-adjusted cost of capital for discounting unlevered cash flows.

Keywords: debt policy, corporate taxes, discount rates, weighted cost of capital

JEL Classification: G1, G3, H2

Suggested Citation: Suggested Citation

Grinblatt, Mark and Liu, Jun, Debt Policy, Corporate Taxes, and Discount Rates (November 7, 2002). UCLA Finance Working Paper No. 14-02, Available at SSRN: https://ssrn.com/abstract=349060 or http://dx.doi.org/10.2139/ssrn.349060