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Optimal Capital Structure in Real Estate Investment: A Real Options Approach

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  • Jyh-Bang Jou

    ()
    (School of Economics and Finance, Massey University (Albany))

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    Abstract

    This article employs a real options approach to investigate the determinants of an optimal capital structure in real estate investment. An investor has the option to delay the purchase of an income-producing property because the investor incurs sunk transaction costs and receives stochastic rental income. At the date of purchase, the investor also chooses a loan-to-value ratio, which balances the tax shield benefit against the cost of debt financing resulting from a higher borrowing rate and a lower rental income. An increase in the sunk cost or the risk of investment will not affect the financing decision, but will delay investment. An increase in the income tax rate or a decrease in the depreciation allowance will encourage borrowing and delay investment, while an increase in the penalty from borrowing, a decrease in the investor's required rate of return, or worse real estate performance through borrowing, will discourage borrowing and delay investment.

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    File URL: http://www.umac.mo/fba/irer/papers/current/vol14n1_pdf/01.pdf
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    Bibliographic Info

    Article provided by Asian Real Estate Society in its journal International Real Estate Review.

    Volume (Year): 14 (2011)
    Issue (Month): 1 ()
    Pages: 1-26

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    Handle: RePEc:ire:issued:v:14:n:01:2011:p:1-26

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    Postal: Asia Real Estate Society, 51 Monroe Street, Plaza E-6, Rockville, MD 20850, USA
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    Web page: http://www.asres.org/

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    Postal: Asian Real Estate Society, 51 Monroe Street, Plaza E-6, Rockville, MD 20850, USA
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    Web: http://www.asres.org/

    Related research

    Keywords: Optimal Capital Structure; Real Estate Investment; Real Options; Transaction Costs;

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