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Debt Policy, Corporate Taxes, and Discount Rates

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  • Grinblatt, Mark
  • Liu, Jun

Abstract

This paper studies the valuation of assets with debt tax shields when debt policy is a general time-dependent function of the asset’s unlevered cash flows, value, and history. In a continuous-time setting, it shows that the value of a project’s debt tax shield satisfies a partial di�erential equation, which simplifies to an easily solved ordinary di�erential equation for most plausible debt policies. A large class of cases exhibits closed-form solutions for the value of a levered asset, the value of its tax shield, and the appropriate cost of capital for discounting unlevered cash flows so as to account for the value of the tax shield.

Suggested Citation

  • Grinblatt, Mark & Liu, Jun, 2002. "Debt Policy, Corporate Taxes, and Discount Rates," University of California at Los Angeles, Anderson Graduate School of Management qt7dx622kj, Anderson Graduate School of Management, UCLA.
  • Handle: RePEc:cdl:anderf:qt7dx622kj
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    References listed on IDEAS

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    Cited by:

    1. Cooper, Ian A. & Nyborg, Kjell G., 2006. "The value of tax shields IS equal to the present value of tax shields," Journal of Financial Economics, Elsevier, vol. 81(1), pages 215-225, July.
    2. Lin, Hsuan-Chu & Chou, Ting-Kai & Wang, Wen-Gine, 2012. "Capital structure and executive compensation contract design: A theoretical and empirical analysis," Journal of Banking & Finance, Elsevier, vol. 36(1), pages 209-224.
    3. Rainer Baule, 2019. "The cost of debt capital revisited," Business Research, Springer;German Academic Association for Business Research, vol. 12(2), pages 721-753, December.
    4. Sven Arnold & Alexander Lahmann & Bernhard Schwetzler, 2018. "Discontinuous financing based on market values and the value of tax shields," Business Research, Springer;German Academic Association for Business Research, vol. 11(1), pages 149-171, February.
    5. Robert Couch & Michael Dothan & Wei Wu, 2012. "Interest Tax Shields: A Barrier Options Approach," Review of Quantitative Finance and Accounting, Springer, vol. 39(1), pages 123-146, July.
    6. Dirk Beyer, 2018. "A matrix approach to valuation and performance measurement based on accounting information considering different financing policies," Journal of Management Control: Zeitschrift für Planung und Unternehmenssteuerung, Springer, vol. 29(1), pages 37-61, March.
    7. Andrea Gamba & Gordon A. Sick & Carmen Aranda León, 2008. "Investment under Uncertainty, Debt and Taxes," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 37(1), pages 31-58, February.

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    JEL classification:

    • G0 - Financial Economics - - General
    • G1 - Financial Economics - - General Financial Markets

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