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Debt Policy, Corporate Taxes, and Discount Rates


  • Mark Grinblatt
  • Jun Liu


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 differential equation, which simplifies to an easily solved ordinary differential 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 tax-adjusted cost of capital for discounting unlevered cash flows.

Suggested Citation

  • Mark Grinblatt & Jun Liu, 2002. "Debt Policy, Corporate Taxes, and Discount Rates," NBER Working Papers 9353, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:9353
    Note: AP

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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. 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.
    3. 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.
    4. repec:spr:busres:v:11:y:2018:i:1:d:10.1007_s40685-017-0053-z is not listed on IDEAS
    5. 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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