Book Values and Market Values of Equity and Debt
This paper propses a contingent claims model to value a firm's debt and equity as functions of observable book values appearing in published financial statements. Equity fair value critically depends on expected earnings, equity book value and earnings volatility, because of the options to default or to voluntarily liquidate the firms. Debt value increases in earnings volability in the proximity of default. Default is triggered by the erosion of equity due to negative earnings. Debt and equity values are materially affected by the strength of the mean reversion of profitability. Voluntary liquidation before default may be optimal and it entails that a sudden sharp decline in profitability can be less detrimental to creditors than a slower but persistent one.
|Date of creation:||Jun 2006|
|Date of revision:|
|Contact details of provider:|| Postal: |
Phone: (0)1904 323776
Fax: (0)1904 323759
Web page: http://www.york.ac.uk/economics/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Merton, Robert C, 1974.
"On the Pricing of Corporate Debt: The Risk Structure of Interest Rates,"
Journal of Finance,
American Finance Association, vol. 29(2), pages 449-70, May.
- Merton, Robert C., 1973. "On the pricing of corporate debt: the risk structure of interest rates," Working papers 684-73., Massachusetts Institute of Technology (MIT), Sloan School of Management.
- Mehran, Hamid & Nogler, George E. & Schwartz, Kenneth B., 1998. "CEO incentive plans and corporate liquidation policy," Journal of Financial Economics, Elsevier, vol. 50(3), pages 319-349, December.
- Pierre Mella-Barral & William R M Perraudin, 1993.
"Strategic Debt Service,"
CEPR Financial Markets Paper
0039, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ..
- Brockman, Paul & Turtle, H. J., 2003. "A barrier option framework for corporate security valuation," Journal of Financial Economics, Elsevier, vol. 67(3), pages 511-529, March.
- Pierre Mella-Barral & Pierre Tychon, 1996.
"Default Risk in Asset Pricing,"
FMG Discussion Papers
dp250, Financial Markets Group.
- Mella-Baral, Pierre & Tychon, Pierre, 1996. "Default risk in asset pricing," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 1996021, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
- DeAngelo, Harry & DeAngelo, Linda & Wruck, Karen H., 2002. "Asset liquidity, debt covenants, and managerial discretion in financial distress:*1: the collapse of L.A. Gear," Journal of Financial Economics, Elsevier, vol. 64(1), pages 3-34, April.
- Fan, Hua & Sundaresan, Suresh M, 2000. "Debt Valuation, Renegotiation, and Optimal Dividend Policy," Review of Financial Studies, Society for Financial Studies, vol. 13(4), pages 1057-99.
- Ericsson, Jan & Reneby, Joel, 1995.
"A Framework for Valuing Corporate Securities,"
SSE/EFI Working Paper Series in Economics and Finance
89, Stockholm School of Economics, revised Oct 1998.
- Hayne E. Leland., 1998.
"Agency Costs, Risk Management, and Capital Structure,"
Research Program in Finance Working Papers
RPF-278, University of California at Berkeley.
- Hayne E. Leland, 1998. "Agency Costs, Risk Management, and Capital Structure," Journal of Finance, American Finance Association, vol. 53(4), pages 1213-1243, 08.
- Brennan, M J & Schwartz, Eduardo S, 1977. "Convertible Bonds: Valuation and Optimal Strategies for Call and Conversion," Journal of Finance, American Finance Association, vol. 32(5), pages 1699-1715, December.
- Anderson, Ronald W & Sundaresan, Suresh, 1996. "Design and Valuation of Debt Contracts," Review of Financial Studies, Society for Financial Studies, vol. 9(1), pages 37-68.
- Harrison, J. Michael & Kreps, David M., 1979. "Martingales and arbitrage in multiperiod securities markets," Journal of Economic Theory, Elsevier, vol. 20(3), pages 381-408, June.
- Longstaff, Francis A & Schwartz, Eduardo S, 1995. " A Simple Approach to Valuing Risky Fixed and Floating Rate Debt," Journal of Finance, American Finance Association, vol. 50(3), pages 789-819, July.
- Kim, E. Han & Schatzberg, John D., 1987. "Voluntary corporate liquidations," Journal of Financial Economics, Elsevier, vol. 19(2), pages 311-328, December.
- Goldstein, Robert & Ju, Nengjiu & Leland, Hayne, 2001. "An EBIT-Based Model of Dynamic Capital Structure," The Journal of Business, University of Chicago Press, vol. 74(4), pages 483-512, October.
- Leland, Hayne E, 1994.
" Corporate Debt Value, Bond Covenants, and Optimal Capital Structure,"
Journal of Finance,
American Finance Association, vol. 49(4), pages 1213-52, September.
- Hayne E. Leland., 1994. "Corporate Debt Value, Bond Covenants, and Optimal Capital Structure," Research Program in Finance Working Papers RPF-233, University of California at Berkeley.
- Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-54, May-June.
- In Joon Kim & Krishna Ramaswamy & Suresh Sundaresan, 1993. "Does Default Risk in Coupons Affect the Valuation of Corporate Bonds?: A Contingent Claims Model," Financial Management, Financial Management Association, vol. 22(3), Fall.
When requesting a correction, please mention this item's handle: RePEc:yor:yorken:06/11. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Paul Hodgson)
If references are entirely missing, you can add them using this form.