Horses and Rabbits? Optimal Dynamic Capital Structure from Shareholder and Manager Perspectives

45 Pages Posted: 16 Nov 2002 Last revised: 30 Oct 2010

See all articles by Nengjiu Ju

Nengjiu Ju

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF)

Robert Parrino

University of Texas at Austin - Department of Finance

Michael S. Weisbach

Ohio State University (OSU) - Department of Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Allen M. Poteshman

University of Illinois at Urbana-Champaign - Department of Finance

Multiple version iconThere are 2 versions of this paper

Date Written: November 2002

Abstract

This paper examines optimal capital structure choice using a dynamic capital structure model that is calibrated to reflect actual firm characteristics. The model uses contingent-claim methods to value interest tax shields, allows for reorganization in bankruptcy, and maintains a long-run target debt/equity ratio by refinancing maturing debt. Using this model we calculate optimal capital structures in a realistic representation of the traditional tradeoff' model. In contrast to previous research, the resulting optimal capital structures do not imply that firms tend to use too little leverage in practice. We also estimate the costs borne by a firm whose capital structure deviates from its optimal, target' debt/equity ratio. The costs of moderate deviations are relatively small, suggesting that a policy of adjusting leverage only when it deviates substantially from a target debt/equity ratio is likely to be reasonable for most firms.

Suggested Citation

Ju, Nengjiu and Parrino, Robert and Weisbach, Michael S. and Poteshman, Allen M., Horses and Rabbits? Optimal Dynamic Capital Structure from Shareholder and Manager Perspectives (November 2002). NBER Working Paper No. w9327. Available at SSRN: https://ssrn.com/abstract=352080

Nengjiu Ju

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF) ( email )

Shanghai Jiao Tong University
211 West Huaihai Road
Shanghai, 200030
China

Robert Parrino

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

Red McCombs School of Business
Austin, TX 78712
United States
512-471-5788 (Phone)
512-471-5073 (Fax)

Michael S. Weisbach (Contact Author)

Ohio State University (OSU) - Department of Finance ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Allen M. Poteshman

University of Illinois at Urbana-Champaign - Department of Finance ( email )

340 Wohlers Hall
1206 South Sixth Street
Champaign, IL 61820
United States
217-265-0565 (Phone)
217-244-3102 (Fax)

HOME PAGE: http://www.business.uiuc.edu/poteshma

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