DP9926 The Dynamics of Investment, Payout and Debt

Author(s): Bart Lambrecht, Stewart C Myers
Publication Date: April 2014
Keyword(s): agency, financing policy, investment, payout
JEL(s): G31, G32
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=9926

We present a dynamic agency model of investment, borrowing and payout decisions by a mature corporation operating in perfect financial markets. Risk-averse managers implement an inter-temporal strategy that maximizes their lifetime utility of managerial rents. They under-invest and smooth payout and rents. Debt is the shock-absorber for operating income and investment. Managers do not rebalance capital structure, so shocks to debt levels persist. Managers implement precautionary savings by paying down debt, even when interest is tax-deductible. We generate empirical predictions that differ from conventional agency models and from dynamic models based on financing frictions.