Debt, Leases, Taxes, and the Endogeneity of Corporate Tax Status

Graham, John R.; Lemmon, Michael L.; Schallheim, James S.

doi:10.1111/0022-1082.55404

Cited by 499 publications

(228 citation statements)

References 40 publications

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“…The first‐stage debt ratio equation is estimated with ordinary least squares (OLS) 19 . The debt specification uses explanatory variables suggested by Titman and Wessels (1988) and Graham, Lemmon, and Schallheim (1998), as described in Table III. In addition, the debt equation explores whether the extent of derivatives hedging is an important determinant of debt policy.…”

Section: Theoretical Explanations Of Why Firms Hedgementioning

confidence: 99%

Do Firms Hedge in Response to Tax Incentives?

Graham¹,

Rogers²

2002

The Journal of Finance

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729

539

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There are two tax incentives for corporations to hedge: to increase debt capacity and interest tax deductions, and to reduce expected tax liability if the tax function is convex. We test whether these incentives affect the extent of corporate hedging with derivatives. Using an explicit measure of tax function convexity, we find no evidence that firms hedge in response to tax convexity. Our analysis does, however, indicate that firms hedge to increase debt capacity, with increased tax benefits averaging 1.1 percent of firm value. Our results also indicate that firms hedge because of expected financial distress costs and firm size. AN INCREASING NUMBER OF CORPORATIONS use financial derivatives each year.The International Swaps and Derivatives Association reports that the notional value of outstanding OTC swap contracts increased from $11.3 trillion in 1994 to more than $60 trillion by mid-2000~http:00www.isda.org!. This is interesting because financial theory tells us that corporate risk management enhances value only in the presence of costly market imperfections. A number of empirical studies examine derivative holdings to identify which of the proposed theoretical incentives and imperfections lead to corporate hedging. Our paper adds to the hedging literature by testing whether corporations respond to two tax-related incentives to hedge: the incentive to reduce volatility, thereby increasing debt capacity and the tax benefits of debt, and the incentive to reduce expected tax liabilities by reducing the volatility of taxable income. We also use a refined dependent variable to measure net * Graham is from Duke University and Rogers is from Portland State University. We thank an anonymous referee,

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Section: Theoretical Explanations Of Why Firms Hedgementioning

confidence: 99%

Do Firms Hedge in Response to Tax Incentives?

Graham¹,

Rogers²

2002

The Journal of Finance

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729

539

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“…The costs of debt include financial distress (Scott (1976)), personal taxes (Miller (1977)), debt overhang (Myers (1977)), and agency conflicts between managers and investors or among different groups of investors. For the most part, these theoretical predictions have been tested using reduced form regressions that attempt to explain variation in capital structure policies based on estimated slope coefficients for factors such as firm size, tax status, asset tangibility, profitability, and growth options (Rajan and Zingales (1995), Frank and Goyal (2009), Graham, Lemmon, and Schallheim (1998)).…”

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confidence: 99%

The Cost of Debt

Binsbergen¹,

Graham²,

Yang

2010

The Journal of Finance

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272

115

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We use exogenous variation in tax benefit functions to estimate firm-specific cost of debt functions that are conditional on company characteristics such as collateral, size, and book-to-market. By integrating the area between the benefit and cost functions, we estimate that the equilibrium net benefit of debt is 3.5% of asset value, resulting from an estimated gross benefit (cost) of debt equal to 10.4% (6.9%) of asset value. We find that the cost of being overlevered is asymmetrically higher than the cost of being underlevered and that expected default costs constitute only half of the total ex ante costs of debt. Copyright (c) 2010 the American Finance Association.

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“…They vary in the type of proxy employed for the marginal tax advantage of debt, the empirical methods used and the kind of rms investigated. While some studies only focus on one country (for example Graham et al (1998) and Graham (1999), which use simulated marginal tax rates of U.S. corporations), others examine tax eects across several countries (e.g. Rajan and Zingales (1995)).…”

Section: Introductionmentioning

confidence: 99%

M&A and the Tax Benefits of Debt-Financing

Scheuering¹

2014

SSRN Journal

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Die Dis cus si on Pape rs die nen einer mög lichst schnel len Ver brei tung von neue ren For schungs arbei ten des ZEW. Die Bei trä ge lie gen in allei ni ger Ver ant wor tung der Auto ren und stel len nicht not wen di ger wei se die Mei nung des ZEW dar.Dis cus si on Papers are inten ded to make results of ZEW research prompt ly avai la ble to other eco no mists in order to encou ra ge dis cus si on and sug gesti ons for revi si ons. The aut hors are sole ly respon si ble for the con tents which do not neces sa ri ly repre sent the opi ni on of the ZEW.M &A and the Tax Benets of Debt-Financing * Uwe ScheueringCentre for European Economic Research (ZEW) † March 2014Abstract:The deductibility of interest expenses from the corporate tax base creates an incentive for acquiring companies to nance a takeover with debt. In this paper, I investigate the impact of prot taxation on the nancing decision in corporate acquisitions for the rst time for a sample of dierent acquirer-countries mainly in Europe. The likelihood to observe a debt-nanced acquisition is found to increase in the acquirer's tax rate. In addition, I take into account that the nancing decisions of particular acquisitions might not be independent from other investment decisions. Therefore, I analyze the acquirer's capital structure development around the acquisition and nd an increase in the statutory tax rate by one %-point to be associated with a stronger increase in the debt ratio by 0.55 %-points during the acquisition period. Non-Technical Summary I examine the extent to which acquiring companies make use of the tax advantage of debt-nancing in the acquisition period. The intuition is that companies can reduce their tax burden by means of debt-nancing because interest expenses are deductible from the corporate tax base and therefore create a tax shield. In contrast, dividends, in a sense the interest payments to equity providers, are not deductible.The relevance of interest tax shields for acquiring companies was highlighted by the French announcement of increasing taxes and at the same time restricting the deductibility of interest expenses in 2012. Private equity rms, which often undertake mainly debtnanced acquisitions, heavily complained about this notication and even threatened to leave France.The tax advantage of debt might lead to economically inecient high debt ratios and, therefore, to higher risk of nancial distress and lower resistance to crisis. Moreover, it can make acquisitions protable, which would not occur in a world without tax discrimination of equity. Furthermore, multinational companies face tax planning opportunities when it comes to the nancing decision of corporate acquisitions due to the dierent tax systems and tax rates in the countries their subsidiaries are located in.I have analyzed the nancing decision in corporate acquisitions between 2001 and 2011 across many, mainly European countries. The empirical approach consisted of two parts. First, I examined the probability to observe a debt-nanced deal. Second, I took a look...

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Debt, Leases, Taxes, and the Endogeneity of Corporate Tax Status

Cited by 499 publications

References 40 publications

Do Firms Hedge in Response to Tax Incentives?

Do Firms Hedge in Response to Tax Incentives?

The Cost of Debt

M&A and the Tax Benefits of Debt-Financing

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