Article1998

Agency Costs, Risk Management, and Capital Structure

1,495 citations0/0 files storedThe Journal of Finance

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Corporate Finance and Governance Corporate Insolvency and Governance Risk Management in Financial Firms

Abstract

ABSTRACT The joint determination of capital structure and investment risk is examined. Optimal capital structure reflects both the tax advantages of debt less default costs ( Modigliani and Miller (1958, 1963) ), and the agency costs resulting from asset substitution ( Jensen and Meckling (1976) ). Agency costs restrict leverage and debt maturity and increase yield spreads, but their importance is small for the range of environments considered. Risk management is also examined. Hedging permits greater leverage. Even when a firm cannot precommit to hedging, it will still do so. Surprisingly, hedging benefits often are greater when agency costs are low.

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References

1976Theory of the firm: Managerial behavior, agency costs and ownership structure 1973The Pricing of Options and Corporate Liabilities 1958The Cost of Capital, Corporation Finance and the Theory of Investment 1977Determinants of corporate borrowing 2008The cost of capital, corporation finance and the theory of investment 1963CORPORATE INCOME TAXES AND THE COST OF CAPITAL: A CORRECTION 1991The Theory of Capital Structure 1985The Determinants of Firms' Hedging Policies

Cited by

2008Environmental risk management and the cost of capital 2001Term Structures of Credit Spreads with Incomplete Accounting Information 2004Capital Structure and Stock Returns 2003Capital structure choice: macroeconomic conditions and financial constraints 2012How Much of the Corporate-Treasury Yield Spread Is Due to Credit Risk?2006Multi-period corporate default prediction with stochastic covariates 2007

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