Comments on 'a Reconsideration of Tax Shield Valuation'

6 Pages Posted: 22 Nov 2004

See all articles by Pablo Fernandez

Pablo Fernandez

University of Navarra - IESE Business School

Date Written: November 18, 2004

Abstract

Although Arzac and Glosten (2005) affirm that the value of tax shields depends upon the nature of the equity stochastic process, which, in turn depends upon the free cash flow process, I prove that the value of tax shields depends only upon the nature of the stochastic process of the net increase of debt. Arzac and Glosten (2005) formulate the constant leverage ratio assumption as Dt = L Et. The assumption of Fernandez (2004) is E{Dt}= L E{Et}, being E{bullet} the expected value operator, D the value of debt, E the equity value, and L a constant. Arzac and Glosten (2005) assumption requires continuous debt rebalancing, while mine does not. Under both financial policies, the expected leverage ratio is constant, but the Arzac and Glosten (2005) assumption is too extreme.

Keywords: Value of tax shields, APV, required return to equity, cost of capital, net increase of debt

JEL Classification: G12, G13, G31, G32, G33

Suggested Citation

Fernandez, Pablo, Comments on 'a Reconsideration of Tax Shield Valuation' (November 18, 2004). Available at SSRN: https://ssrn.com/abstract=622001 or http://dx.doi.org/10.2139/ssrn.622001

Pablo Fernandez (Contact Author)

University of Navarra - IESE Business School ( email )

Camino del Cerro del Aguila 3
28023 Madrid
Spain
+34 91 357 0809 (Phone)
+34 91 357 2913 (Fax)

HOME PAGE: http://web.iese.edu/PabloFernandez/

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