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Managerial entrenchment, equity payout and capital structure

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  • Wang, Hao
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    Abstract

    I develop a contingent claims model to examine the impacts of managerial entrenchment on capital structure and security valuation. The analysis shows that managers' self-interested leverage choices deviate significantly from the optimal leverages that maximize firm values, partially explaining the suboptimal leverage ratios observed empirically (Graham, 2000). Both the extent and sensitivity of the deviations are affected by firm characteristics, debt features and default solutions. The shareholder-manager conflicts over risk level and cash payout vary dynamically with a firm's financial health. Managerial entrenchment does not mitigate the agency problems of debt since managers' discretionary decisions on milking properties or asset substitution could be driven by incentives to increase their own utility.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Banking & Finance.

    Volume (Year): 35 (2011)
    Issue (Month): 1 (January)
    Pages: 36-50

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    Handle: RePEc:eee:jbfina:v:35:y:2011:i:1:p:36-50

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    Web page: http://www.elsevier.com/locate/jbf

    Related research

    Keywords: Managerial entrenchment Equity payout Capital structure Bivariate lattice model Security valuation;

    References

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    Cited by:
    1. Meng, Rujing & Ning, Xiangdong & Zhou, Xianming & Zhu, Hongquan, 2011. "Do ESOPs enhance firm performance? Evidence from China's reform experiment," Journal of Banking & Finance, Elsevier, vol. 35(6), pages 1541-1551, June.

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