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The private sector can play important roles in closing the infrastructure investment gaps in emerging market and developing economies. However, private participation in emerging market and developing economies' infrastructure has declined over the past decade, reflecting persistent structural challenges and risks in the business environment. The decline was broad‐based and gained momentum following the 2013 taper tantrum and the end of the commodity super cycle. Incentivizing greater private sector participation in infrastructure will require policies to improve access to long‐term finance and to derisk the business environment. This will require efforts to strengthen the banking sector regulation and supervision, to improve the legal and contractual environment, and to limit information asymmetries. Deepening local financial and bond markets can make it possible for infrastructure bonds to be issued in local currencies and minimize potential currency mismatches. Improvements in the broader business environment can benefit from greater macroeconomic stability and stronger institutional frameworks. Policies that improve the quality of projects at entry, address currency risk, relax capital controls, and enable cost recovery pricing can unlock private sector participation in infrastructure financing. Strong government support, including ensuring regulatory quality, and providing well‐targeted guarantees and subsidies, can play a critical role. [ABSTRACT FROM AUTHOR]

We find that contrary to popular belief, CEOs with long compensation duration do not make better long-term investment decisions. Using a comprehensive pay duration measure, we find that acquisitions conducted by CEOs with long compensation duration receive more negative announcement returns, and experience significantly worse post-acquisition abnormal operating and stock performance, compared with deals conducted by CEOs with short compensation duration. The negative correlation between compensation duration and mergers and acquisitions (M&A) performance is driven by long-term time-vesting plans, not by performance-vesting plans. The results suggest that extending CEO pay horizons without implementing performance requirements is insufficient to improve managerial long-term investment decisions. [ABSTRACT FROM AUTHOR]

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Asymmetric information models suggest that a borrower’s choice of debt maturity depends on its private information about its default probabilities, that is, borrowers with favorable information prefer short-term debt while those with unfavorable information prefer long-term debt. We test this implication by tracing the evolution of debt issuers’ default risk following debt issuances. We find that short-term debt issuance leads to a decline inborrowers’ asset volatility and an increase in their distance to default. The opposite is true for long-term debt issues. The results suggest that borrowers’ private information about their default risk is an important determinant of their debt maturity choices. [ABSTRACT FROM PUBLISHER]

Does the ability of suppliers of corporate debt capital to hedge risk through credit default swap (CDS) contracts impact firms' capital structures? We find that firms with traded CDS contracts on their debt are able to maintain higher leverage ratios and longer debt maturities. This is especially true during periods in which credit constraints become binding, as would be expected if the ability to hedge helps alleviate frictions on the supply side of credit markets. [ABSTRACT FROM PUBLISHER]

This study examines how the institutional environment influences capital structure and debt maturity choices of firms in 39 developed and developing countries. We find that a country’s legal and tax system, corruption, and the preferences of capital suppliers explain a significant portion of the variation in leverage and debt maturity ratios. Specifically, firms in more corrupt countries and those with weaker laws tend to use more debt, especially short-term debt; explicit bankruptcy codes and deposit insurance are associated with higher leverage and more long-term debt. More debt is used in countries where there is a greater tax gain from leverage. [ABSTRACT FROM PUBLISHER]

We investigate corporate financial policies in the presence of both temporary and permanent shocks to firms’ cash flows. In our framework, cash flows can be negative and are imperfectly correlated with firm value, and earnings volatility differs from asset volatility. These results are consistent with empirical stylized facts. They are also contrary to the implications of existing dynamic capital structure models that allow only for permanent shocks to cash flows. Temporary shocks increase the importance of financial flexibility and may provide an intuitively simple and realistic explanation of empirically observed financial conservatism and low leverage phenomena. The theoretical framework developed in this article general enough to be used in various corporate finance applications. [ABSTRACT FROM PUBLISHER]

Using a novel information asymmetry index based on measures of adverse selection developed by the market microstructure literature, we test whether information asymmetry is an important determinant of capital structure decisions, as suggested by the pecking order theory. Our index relies exclusively on measures of the market's assessment of adverse selection risk rather than on ex ante firm characteristics. We find that information asymmetry does affect the capital structure decisions of U.S. firms over the sample period 1973-2002. Our findings are robust to controlling for conventional leverage factors (size, tangibility, Q ratio, profitability), the sources of firms' financing needs, and such firm attributes as stock return volatility, stock turnover, and intensity of insider trading. For example, we estimate that on average, for every dollar of financing deficit to cover, firms in the highest adverse selection decile issue 30 cents of debt more than firms in the lowest decile. Overall, this evidence explains why the pecking order theory is only partially successful in explaining all of firms' capital structure decisions. It also suggests that the theory finds support when its basic assumptions hold in the data, as should reasonably be expected of any theory. [ABSTRACT FROM AUTHOR]

If firms adjust their capital structures toward targets, and if there are adverse selection costs associated with asymmetric information, how and when do firms adjust their capital structures? We suggest a financing needs-induced adjustment framework to examine the dynamic process by which firms adjust their capital structures. We find that most adjustments occur when firms have above-target (below-target) debt with a financial surplus (deficit). These results suggest that firms move toward the target capital structure when they face a financial deficit/surplus—but not in the manner hypothesized by the traditional pecking order theory. [ABSTRACT FROM AUTHOR]

The paper investigates how firms operating in capital market-oriented economies (the U.K. and the U.S.) and bank-oriented economies (France, Germany, and Japan) determine their capital structure. Using panel data and a two-step system-GMM procedure, the paper finds that the leverage ratio is positively affected by the tangibility of assets and the size of the firm, but declines with an increase in firm profitability, growth opportunities, and share price performance in both types of economies. The leverage ratio is also affected by the market conditions in which the firm operates. The degree and effectiveness of these determinants are dependent on the country's legal and financial traditions. The results also confirm that firms have target leverage ratios with French firms being the fastest in adjusting their capital structure toward their target level and Japanese firms the slowest. Overall, the capital structure of a firm is heavily influenced by the economic environment and its institutions, corporate governance practices, tax systems, the borrower-lender relation, exposure to capital markets, and the level of investor protection in the country in which the firm operates. [ABSTRACT FROM AUTHOR]

We develop an agency model of financial contracting. We derive long-term debt, a line of credit, and equity as optimal securities, capturing the debt coupon and maturity; the interest rate and limits on the credit line; inside versus outside equity; dividend policy; and capital structure dynamics. The optimal debt-equity ratio is history dependent, but debt and credit line terms are independent of the amount financed and, in some cases, the severity of the agency problem. In our model, the agent can divert cash flows; we also consider settings in which the agent undertakes hidden effort, or can control cash flow risk. [ABSTRACT FROM AUTHOR]

Pledgeable assets support more borrowing, which allows for further investment in pledgeable assets. We use this credit multiplier to identify the impact of financing frictions on corporate investment. The multiplier suggests that investment-cash flow sensitivities should be increasing in the tangibility of firms' assets (a proxy for pledgeability), but only if firms are financially constrained. Our empirical results confirm this theoretical prediction. Our approach is not subject to the Kaplan and Zingales (1997) critique, and sidesteps problems stemming from unobservable variation in investment opportunities. Thus, our results strongly suggest that financing frictions affect investment decisions. [ABSTRACT FROM AUTHOR]

We examine the optimal mixture and priority structure of bank and market debt using a trade-off model in which banks have the unique ability to renegotiate outside formal bankruptcy. Flexible bank debt offers a superior trade-off between tax shields and bankruptcy costs. Ease of renegotiation limits bank debt capacity, however. Optimal debt structure hinges upon which party has bargaining power in private workouts. Weak firms have high bank debt capacity and utilize bank debt exclusively. Strong firms lever up to their (lower) bank debt capacity, augment with market debt, and place the bank senior. Therefore, the trade-off theory offers an explanation for: (i) why young/small firms use bank debt exclusively; (ii) why large/mature firms employ mixed debt financing; and (iii) why bank debt is senior. The trade-off theory also generates predictions consistent with international evidence. In countries in which the bankruptcy regime entails soft (tough) enforcement of contractual priority, bank debt capacity is low (high), implying greater (less) reliance on market debt. [ABSTRACT FROM AUTHOR]

In the presence of frictions, firms adjust their capital structure infrequently. As a consequence, in a dynamic economy the leverage of most firms is likely to differ from the “optimum” leverage at the time of readjustment. This paper explores the empirical implications of this observation. I use a calibrated dynamic trade-off model to simulate firms' capital structure paths. The results of standard cross-sectional tests on these data are consistent with those reported in the empirical literature. In particular, the standard interpretation of some test results leads to the rejection of the underlying model. Taken together, the results suggest a rethinking of the way capital structure tests are conducted. [ABSTRACT FROM AUTHOR]

We derive the optimal dynamic contract in a continuous-time principal-agent setting, and implement it with a capital structure (credit line, long-term debt, and equity) over which the agent controls the payout policy. While the project's volatility and liquidation cost have little impact on the firm's total debt capacity, they increase the use of credit versus debt. Leverage is nonstationary, and declines with past profitability. The firm may hold a compensating cash balance while borrowing (at a higher rate) through the credit line. Surprisingly, the usual conflicts between debt and equity (asset substitution, strategic default) need not arise. [ABSTRACT FROM AUTHOR]

This paper examines the capital structure implications of market timing. I isolate timing attempts in a single major financing event, the initial public offering, by identifying market timers as firms that go public in hot issue markets. I find that hot-market IPO firms issue substantially more equity, and lower their leverage ratios by more, than cold-market firms do. However, immediately after going public, hot-market firms increase their leverage ratios by issuing more debt and less equity relative to cold-market firms. At the end of the second year following the IPO, the impact of market timing on leverage completely vanishes. [ABSTRACT FROM AUTHOR]

Firms in more concentrated industries earn lower returns, even after controlling for size, book-to-market, momentum, and other return determinants. Explanations based on chance, measurement error, capital structure, and persistent in-sample cash flow shocks do not explain this finding. Drawing on work in industrial organization, we posit that either barriers to entry in highly concentrated industries insulate firms from undiversifiable distress risk, or firms in highly concentrated industries are less risky because they engage in less innovation, and thereby command lower expected returns. Additional time-series tests support these risk-based interpretations. [ABSTRACT FROM AUTHOR]

We empirically examine whether firms engage in a dynamic rebalancing of their capital structures while allowing for costly adjustment. We begin by showing that the presence of adjustment costs has significant implications for corporate financial policy and the interpretation of previous empirical results. After confirming that financing behavior is consistent with the presence of adjustment costs, we find that firms actively rebalance their leverage to stay within an optimal range. Our evidence suggests that the persistent effect of shocks on leverage observed in previous studies is more likely due to adjustment costs than indifference toward capital structure. [ABSTRACT FROM AUTHOR]

There have been several studies that suggest that stock prices tend to underreact to corporate events. These include announcements of earnings, dividend changes, capital structure changes as well as stock splits. It is not surprising that one finds time periods in which investors overact and underreact to specific events, like stock splits. What is surprising is that underreaction persists for an event where learning should be quite straightforward. The overconfidence theory suggests that there is likely to be an initial bias toward underreaction to events like stock splits rather than overreaction. According to the author, behavioral finance theorists are implicitly assuming that learning is inhibited by psychological biases. Conservatism bias essentially means that individuals tend to underweight new information when updating their prior beliefs. This conservatism bias is consistent with the observed underreaction to corporate events. Conservatism bias is just a description of the tendency of individuals to underreact to certain types of information and cannot really be viewed as an explanation for why they underreact.

This paper presents a theory of optimal debt structure when the moral hazard problem is severe. The main idea is that the optimal debt contract delegates monitoring to a single senior lender and that seniority allows the monitoring senior lender to appropriate the full return from his monitoring activities. The theory explains (i) why debt contracts are prioritized, (ii) why short-term debt is senior to long-term debt, and (iii) why financial intermediaries usually hold short-term senior debt whereas long-term junior debt is widely held. Another implication of the theory is that covenant and maturity structures will be set to conform to the seniority structure. [ABSTRACT FROM AUTHOR]

Long-term performance plans are theoretically adopted to better align the interests of the managers and stockholders by redirecting managerial decision-making toward the long-term performance of the corporation. This study reports significant positive excess returns around the announcement of performance plan adoption, which is consistent with the view that such plans would reduce the agency problem. In addition, this study finds an association between the adoption of long-term performance plans and subsequent growth in profitability, suggesting that long-term performance plans may have been successful in motivating an enhancement in the accounting measures of profitability used to reward managers under the plan. Finally, the excess returns around the announcement of performance plan adoption are found to be positively correlated with subsequent change in growth of earnings per share, the most commonly used accounting performance measure. [ABSTRACT FROM AUTHOR]

This paper demonstrates that the various market imperfections that have been suggested to explain observed portfolio choices and capital structures can be circumvented if securities (e.g., options) can be traded that simulate forward contracts on stock. It is shown that if the risk-adjusted returns to bondholders exceed the returns to stockholders (to reflect personal tax differences) tax-exempt investors will prefer a combination of these synthetic forward purchases and corporate bonds to purchasing stock directly. They will not, as has been suggested, include stock in their portfolios for diversification purposes when they can alternatively purchase securities that simulate forward contracts. It is also shown that firms that can sell synthetic forward positions on their own stock can essentially guarantee that sufficient funds will be available to meet their bond obligations. This gives firms the opportunity to increase their debt levels without increasing the possibility of bankruptcy and the corresponding administrative and agency costs. [ABSTRACT FROM AUTHOR]

This article provides research and financial analysis in regards to bond immunization when short-term interest rates fluctuate at a more rapid pace compared to long-term interest rates. The purpose of this article is to decipher the equation for duration which will produce immunization for a stochastic process in which short-term rates vary in comparison to long-term rates. A process like this can be captured by an additive reciprocal term dependent shift. The formula for this algorithm is included.

In this article an alternative explanation of the use of debt and equity securities is presented. This analysis is about an organization's financing of a new investment when the investment is predicted to return risk-adjusted excess or monopoly profits and managers have insider information about how far those profits have spread. The approach taken in this article is inspired by the work of Stephen Ross on capital structure and incentive signaling models. Also included is an analysis of the rate of return for corporate investments.

This study examines the relationship between corporate strategy and capital structure, specifically the diversification and financing strategies of a firm. The results show that equity financing is preferred for related diversification and unrelated diversification is associated with debt financing. Additionally, firms diversifying through acquisitions are more likely to use public sources of financing and those emphasizing internal development of new businesses depend primarily on private sources of financing. Using simultaneous equation estimation, we found a reciprocal relationship between a firm's financial strategy and its corporate diversification strategy. Mode and nature of diversification are also reciprocally interrelated. [ABSTRACT FROM AUTHOR]

The basic thesis of this exploratory investigation was that a corporate strategy perspective may complement the traditional financial paradigm in explaining capital structure in large U.S. corporations. Earlier fusion of strategic and financial literature led to a series of propositions antecedent to this work. Inclusion of Rumelt's diversification categories plus elsewhere validated financial contextual variables led to hypotheses for the present study. Results suggest a managerial choice perspective may help to explain the capital structure choice at the firm level of analysis. [ABSTRACT FROM AUTHOR]

The article looks at modeling the determination of long-term interest rates in the U.S. The interrelationship of financial and nonfinancial economic behavior is discussed. The effects of long-term interest rates on other debt-financed physical investment are considered. Long-term interest rates and equity yields comprise a large component of the cost of corporate financial capital. The author seeks to uncover a better approach to the modeling of long-term interest rate determinants. Rather than directly model bond yields, he instead models the supply of bonds and their demand to determine the bond yield level necessary for calculating total supply and demand.

We investigate the determinants of capital structure choice by analyzing the financing decisions of public firms in the major industrialized countries. At an aggregate level, firm leverage is fairly similar across the G-7 countries. We find that factors identified by previous studies as correlated in the cross-section with firm leverage in the United States, are similarly correlated in other countries as well. However, a deeper examination of the U.S. and foreign evidence suggests that the theoretical underpinnings of the observed correlations are still largely unresolved. [ABSTRACT FROM AUTHOR]

We analyze the optimal design of debt maturity, coupon payments, and dividend payout restrictions under asymmetric information. We show that, if the asymmetry of information is concentrated around long-term cash flows, firms finance with coupon-bearing long-term debt that partially restricts dividend payments. If the asymmetry of information is concentrated around near-term cash flows and there exists considerable refinancing risk, firms finance with coupon-bearing long-term debt that does not restrict dividend payments. Finally, if the asymmetry of information is uniformly distributed across dates, firms finance with short-term debt. [ABSTRACT FROM AUTHOR]

This paper analyzes the role of capital structure in the presence of intrafirm influence activities. The hierarchical structure of large organizations inevitably generates attempts by members to influence the distributive consequences of organizational decisions. In corporations, for example, top management can reallocate or eliminate quasi rents earned by their employees, while at the same time, they must rely on these employees to provide them with information vital to their decision making. This creates the opportunity for lower level managers to influence top management's discretionary decisions. As a result, divisional managers may attempt to inflate the corporate perception of their relative contributions to the firm, or to take actions that make the elimination of their rents more costly for the firm. This incentive to influence is especially acute when managers fear losing their jobs, for example in the event of a divestiture. Since the firm's capital structure can affect future divestiture decisions, it can be chosen to reduce or increase the divisional managers' incentives to influence top management's decisions. The control of influence activities arises at the expense of restrictions on future divestiture decisions. Hence, there emerges an optimal capital structure that trades off the costs of influence activities against the costs of making poor divestiture decisions. The findings suggest that capital structure can also be chosen to control influence activities that arise under less extreme motivations. We identify several key factors that determine the optimal capital structure: the top management's prior assessment of the likelihood that it will be optimal to divest a specific division; the costs of influence activities to the firm and to the divisional managers; and the difference in the valuation of the division's assets in the current firm and under alternative uses. [ABSTRACT FROM AUTHOR]

The ex ante optimal contract between investors and employees is derived endogenously and is interpreted in terms of debt, equity, and employees' compensation. Although public equity financing is feasible in this model through verified accounting income, debt is needed to force value-enhancing restructuring before the income realizes. The optimal debt level, however, is lower than that which maximizes the value of the firm when there is nonmonetary restructuring-related cost to employees. The paper explains how stock prices react to exchange offers, bow earnings can be diluted by a decrease in leverage, and why employees' claims are generally senior to those of investors. New testable implications about leverage and compensation levels are derived. [ABSTRACT FROM AUTHOR]

This paper provides evidence that all-equity firms exhibit greater levels of managerial stockholdings, more extensive family relationships among top management, and higher liquidity positions than a matched sample of levered firms. Further, top managers of all-equity firms with family involvement in corporate operations have greater control of corporate voting rights than managers of all-equity firms without family involvement. These findings are consistent with the interpretation that managerial control of voting rights and family relationships among senior managers are important factors in the decision to eliminate leverage. [ABSTRACT FROM AUTHOR]

This paper analyzes the explanatory power of some of the recent theories of optimal capital structure. The study extends empirical work on capital structure theory in three ways. First, it examines a much broader set of capital structure theories, many of which have not previously been analyzed empirically. Second, since the theories have different empirical implications in regard to different types of debt instruments, the authors analyze measures of short-term, long-term, and convertible debt rather than an aggregate measure of total debt. Third, the study uses a factor-analytic technique that mitigates the measurement problems encountered when working with proxy variables. [ABSTRACT FROM AUTHOR]

This article attempts to clarify economist Merton H. Miller's capital structure irrelevance mechanism using a geometric presentation. Such an exercise is useful because Miller's proposition is founded on analytically complex equilibrium arguments that tend to mask the intuition and logic behind his result. Miller argued that the following three results would hold in a world with personal and corporate taxes but no bankruptcy costs: capital structure is irrelevant for the firm; there is a unique debt-equity ratio for the aggregate corporate sector; and investors partition themselves into clienteles based on the unique relationship between the individual's marginal personal tax rate and his or her holdings of corporate securities.

This study of financing decisions by U.S. corporations examines the issuance of long term debt, issuance of short term debt, maintenance of corporate liquidity, issuance of new equity, and payment of dividends. Given costs and imperfections inherent in markets, a firm's financial behavior is characterized as partial adjustment to long run financial targets. Individual firm data are used so that speeds of adjustment are allowed to vary by company and over time. The results suggest that financial decisions are interdependent and that firm size, interest rate conditions, and stock price levels affect speeds of adjustment. [ABSTRACT FROM AUTHOR]

The theory of corporate finance is not directly applicable to financial intermediary decision-making. The lack of applicability stems largely from the particular conditions that distinguish intermediary operations from those of the nonfinancial firm. First, when intermediaries accept deposit financing, they must produce services such as liquidity and convenience at considerable expense for real resources. Second, the introduction of intermediation is likely to be accompanied by incomplete markets so that shareholder unanimity is not in general valid. In this paper, a model with incomplete markets is developed and a shareholder approved rule for intermediary capital structure decisions is derived. [ABSTRACT FROM AUTHOR]

Since Miller's model is based on a number of simplifying assumptions, it is the purpose of this paper to try to extend the analysis to a less restrictive setting. In particular, the basic model is examined under incomplete capital market conditions, and costs associated with debt are introduced. As in Miller's model, it is found that investors have a positive demand for corporate leverage, and that this demand is curtailed as the taxable interest rate rises relative to the tax-exempt rate. Unlike Miller's model, however, the capital structure of any one firm is not found to be a matter of indifference to all shareholders at a market equilibrium. This is attributable in part to the costs of debt, which dictate a tendency for more debt to be issued by those firms with lower costs. In addition, tax arbitrage restrictions, combined with incompleteness of the capital market, prevent marginal rates of substitution between current and future consumption from being equated for all investors. Shareholder preferences are thus no longer unanimous, and equilibrium capital structures will be those which both satisfy a majority of the current shareholders and are immune from outside takeover. The determination of corporate capital structures can be interpreted as retaining a vestige of the old tax saving-bankruptcy cost tradeoff, but there are complicating features not taken into account by the original theory. [ABSTRACT FROM AUTHOR]

In recent years, an increasing interest has been shown in pure discount bonds. A number of papers have looked at corporate capital structure in an option pricing framework, assuming the issuance of pure discount bonds by corporations. Merton has presented a theoretical discussion of the impact of default risk upon pure discount bonds. Racette and Lewellen have argued that long-term pure discount bond issues could present special tax advantages to corporations. Fisher and Weil have suggested that long-term pure discount bonds would be very attractive to holders of bond portfolios in order to immunize these portfolios against changes in interest rates. A similar position is taken by Caks. In spite of the claimed advantages of pure discount bonds from the viewpoint of both potential bondholders and stockholders, in the United States long-term pure discount bonds are not issued by corporations or governments. This paper will provide an explanation of this non-issuance by showing that the tax treatment of original issue pure discount bonds is highly disadvantageous to potential bondholders and firms. U.S. tax law requires the original purchaser of a long-term pure discount bond to amortize as regular income over the bond's life the difference between the purchase price and the face value (to be received at maturity). One purpose of this paper is to show that this tax law implies that, in equilibrium, pure discount bond issue prices would have to be negative for a wide spectrum of tax rates. Corporations would never issue bonds at negative prices, since the corporation would never receive any cash inflows. Secondly, it will be shown that pure discount bonds initially issued at positive prices can subsequently have negative prices if interest rates were to rise. Consequently, such bonds would be very risky to potential purchasers. [ABSTRACT FROM AUTHOR]

Factors to consider In this paper, an integrated model of corporate financing patterns is presented. The model draws on the current theory of optimal capital structure, but places this theory in the context of the overall, ongoing financing decision. Estimates of the model make specific allowance for balance sheet constraints and the interdependent dent nature of the financing decision. A fully integrated theory of corporate financing decisions has not yet been developed, so the results presented cannot be interpreted as a test of any one complete theory. Rather, they represent a search for empirical regularities which may help guide future theoretical studies. Some fragments of a theory of corporate financing decisions do exist, however, and an attempt is made to incorporate them in the model and see if they are useful in explaining past data. [ABSTRACT FROM AUTHOR]

This study examined the effects of recapitalizations on firms' total market values in incomplete capital markets. All previous demonstrations that firms' market values are unaffected by recapitalizations were shown to require, at a minimum, that the allocation of available securities achieved in the capital market be Pareto efficient. A Pareto efficient allocation of securities was also shown to be a sufficient condition for the Modigliani-Miller thesis that relative market values of firms in the same risk class are independent of capital structure. [ABSTRACT FROM AUTHOR]

In this paper, we examined the effect of capital structure rearrangements that violate the me-first rule. We examined this phenomenon for the no-tax case and for the tax case. In both cases, violation of the me-first rule should result in a windfall gain to stockholders and a windfall loss to bondholders. We then examined one specific case in which the me-first rule was violated. When firms form captive finance subsidiaries and use their earnings and assets to support the borrowing of the subsidiary, they create a new class of security holders with income claims that are superior to those of their original bondholders. This form of capital structure rearrangement is a violation of the me-first rule. The empirical evidence indicates that stockholders have on average earned excess returns and old bondholders have suffered windfall losses when firms have formed captive finance subsidiaries. The implications of the empirical results are threefold: First, the results support the theoretical analysis of the effect of a me-first rule violation. Second, the results add to the growing evidence in support of an efficient stock market in which information is impounded in security prices as it becomes available. More importantly, the evidence is supportive of a relatively efficient bond market in which bond prices adjust relatively quickly to new information. Third, the results emphasize the risks that bondholders bear because they wield no direct managerial control over a firm's operations until the firm actually defaults on its interest or principal repayment obligations. As discussed above, creditors' income claims may be abridged not only through formation of captive finance companies, but also through other financial manipulations that do not violate "normal" indenture agreements. [ABSTRACT FROM AUTHOR]

In this paper we discuss the nature of static and dynamic analyses and their implications for a systems theory of policy formulation. Our thesis is that dynamic analysis establishes the basis for formulating strategy to solve long-term problems. Static analysis can be misleading in that it may provide short-term improvements but undermine long-term survival. [ABSTRACT FROM AUTHOR]

Many firms are short of capital. Investment opportunities offering positive net present values often exceed the amount of available internal financing. Management may either impose a capital budget constraint equal to the amount of internally generated funds or finance externally. Assuming that management chooses the latter, it must choose debt, preferred stocky common stock, or various forms or combinations of these securities. Controversy has surrounded the relative costs of debt and equity financing, but, recognizing the tax advantage of debt financing, most theorists agree that a firm will have some debt in its capital structure. This paper will not attempt to examine the important question of the optimal debt/equity ratio in the firm's capital structure but will assume that management has decided it is prudent to issue additional long-term debt. We will delineate the more modest question of the optimal size and timing of the long-term debt issues. [ABSTRACT FROM AUTHOR]