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The Dynamics of Investment, Payout and Debt

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  • Bart M. Lambrecht
  • Stewart C. Myers

Abstract

We develop a dynamic agency model of a public corporation. Managers underinvest because of risk aversion. They smooth rents and payout. They do not exploit interest tax shields fully. The interactions of investment, debt, and payout decisions can change drastically depending on managers’ preferences. Managers with power utility set investment, debt, and payout proportional to the firm’s net worth, generating a constant (possibly negative) net debt ratio. With exponential utility, investment decisions are separated from decisions about debt and payout. More profitable firms become cash cows, and less profitable firms accumulate debt, as in a pecking-order model. Received July 9, 2015; editorial decision January 30, 2017 by Editor Itay Goldstein.

Suggested Citation

  • Bart M. Lambrecht & Stewart C. Myers, 2017. "The Dynamics of Investment, Payout and Debt," The Review of Financial Studies, Society for Financial Studies, vol. 30(11), pages 3759-3800.
    • Handle: RePEc:oup:rfinst:v:30:y:2017:i:11:p:3759-3800.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhx081
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    More about this item

    JEL classification:

    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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