The effect of taxes and depreciation on corporate investment and financial leverage

Article Abstract:

This paper provides an analysis of the effect of corporate and personal taxes on the firm's optimal investment and financing decisions under uncertainty. It extends the DeAngelo and Masulis capital structure model by endogenizing the firm's investment decision. The author's results indicate that, when investment is allowed to adjust optimally, the existing predictions about the relationship between investment-related and debt-related tax shields must be modified. In particular, the authors show that increases in investment-related tax shields due to changes in the corporate tax code are not necessarily associated with reductions in leverage at the individual firm level. In cross-sectional analysis, firms with higher investment-related tax shields (normalized by expected earnings) need not have lower debt-related tax shields (normalized by expected earnings) unless all firms utilize the same production technology. Differences in production technologies across firms may thus explain why the empirical results of recent cross-sectional studies have not conformed to the predictions of DeAngelo and Masulis. (Reprinted by permission of the publisher.)

Economic aspects, Corporate taxes, Investments, Corporations

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Tax arbitrage and the existence of equilibrium prices for financial assets

Article Abstract:

In models where both investors and securities are subject to differential taxation, there may be no set of prices that rule out infinite gains to trade, or "tax arbitrage." This paper characterizes the joint restrictions on financial-asset returns and investors' tax schedules that preclude tax arbitrage in the absence of short-sale constraints. The authors show that, if there exists any configuration of marginal tax rates on investors' tax schedules that rule out infinite gains to trade, then "no-tax-arbitrage" prices will exist. They also show that the existence of "no-tax-arbitrage" prices ensures the existence of equilibrium prices. (Reprinted by permission of the publisher.)

Analysis, Securities, Investors, Arbitrage, Securities taxes, Financial research

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An option-theoretic approach to the valuation of dividend reinvestment and voluntary purchase plans

Article Abstract:

Many firms with dividend reinvestment plans also allow their shareholders to voluntarily invest supplemental funds to purchase additional shares. The purchase price for newly-issued shares often is determined by the average stock price over a prespecified time period preceding the investment date. This gives the firm's shareholders an option to invest in additional shares only when the stock price exceeds the computed average. This paper uses both theoretical and numerical methods to analyze the value of these voluntary purchase options in theory and practice. (Reprinted by permission of the publisher.)

Purchasing, Stocks, Valuation, Dividend reinvestment

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