The firm's capital structure decision: Market power, debt maturity, and uncertain cash flows
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PublisherThe University of Arizona.
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AbstractA current outgrowth of the nearly four decades of research in capital structure is the investigation of linkages between the firm's decisions and factors outside of strictly financial determinants. The three essays that comprise this dissertation offer contributions to this area of research. The first essay explores the connection between the product market and the firm's financial decisions. I hypothesize that market power acts as a buffer against strategic action on the part of a competitor and the existence of market power allows the firm to hold more debt in its capital structure. Using a binary choice model, I find that firms with market power have a higher propensity to issue public debt rather than public equity. In addition, no evidence is found suggesting agency costs have a significant impact on the security issue decision. The second essay is an extension of an analytical model of the free-cash-flow hypothesis developed by Stulz (1990). Debt can increase the value of a firm by reducing the amount of cash the manager can misappropriate or invest in personal projects. The extension is developed under the assumption that the stockholders do not know with certainty the mean of the cash flow distribution. The extension drives two main results: one, the amount of debt in the capital structure of a firm is dependent upon the precision of the shareholders' a priori estimate of future cash flows; and, two, the maturity of the firm's debt is dependent upon the shareholders' estimate of the mean of future cash flow. The third essay empirically explores the relationship between the firm's maturity structure of debt and the firm's maturity structure of assets. New variables are constructed to specifically test the maturity-matching hypothesis. The dependent variable is the change in average maturity of debt caused by a new issue. An independent variable measures the difference between the average maturity of debt and the average maturity of assets. I find statistically significant evidence supporting the maturity-matching hypothesis and inconsistent support for the agency hypothesis.
Degree ProgramGraduate College