SIMULTANEOUS DEBT AND EQUITY ISSUES AND CAPITAL STRUCTURE TARGETS

Numerous empirical studies find evidence that managers behave as if they pursue target debt ratios. A possible alternative to the use of conventional, separate issuances of debt and equity to effect desired adjustments toward a target ratio is the simultaneous issuance of such securities. We extend prior research on such issues by exploring their use in the pursuit of capital structure targets. We find that the issuance of securities in general and the use of simultaneous issues of debt and equity in particular are at least partially influenced by where a firm's capital structure is relative to the average position in its industry. Further, shareholders' reactions to the announced plan to issue and to the issuance of securities are influenced, in part, by whether the issue moves the firm toward or away from the average capital structure in the industry. We also find evidence that the infrequent use of simultaneous issues relative to unaccompanied debt and equity issues is explained by their comparative flotation costs.     

A PRACTICAL APPROACH TO CAPITAL STRUCTURE FOR BANKS

Like U.S. companies in many industries. American's bank's attention to capital structure is reflected in their high level of stock repurchases in recent years. But, if banks are responding to some of the same economic forces that are driving industrial firms to shed excess capital, there are some important differences between banks and industrials that complicate the process of establishing appropriate capital levels for banks. The most important difference comes from regulation. Since the implementation by FDICIA of risk based capital guidelines in the early 1990s, the capital ratios of U.S. banks have increased substantially. In fact, most U.S. banks today carry considerably more capital than is required by the regulators. This tendency to exceed regulatory capital levels is especially pronounced for smaller institutions, which can in turn be explained by the riskier profile of smaller banks: While such banks have the highest proportion of the lowest-risk assets (such as cash, mortgages, and marketable securities), they also have a much greater degree of concentration (and co-variance) among their riskier assets.
This article recommends using a quantitative economic approach (such as a RAROC model) to generate a lower bound on the amount of necessary capital. This estimate can then be translated into a target capital structure by taking account of a variety of practical, qualitative considerations, including banks' preference to maintain capital levels that provide a comfortable margin above bank regulators' "well capitalized" levels. Although such considerations will vary in importance from one bank to another, they will generally include management's risk tolerance, regulatory constraints, market pressures (as reflected in peer group capital levels), the bank's prospects and investment plans, and, for larger banks, rating agency requirements.     

A SEQUENTIAL SIGNALING MODEL OF CONVERTIBLE DEBT ISSUE AND CALL POLICIES

This paper offers a new explanation for why some risk‐averse firms may prefer to issue callable convertible debt. Here, the convertible debt issue and call policies are integrated into a unified financing policy. It is then shown that for firms with relatively low unsystematic risk, convertible debt issuance followed by an appropriate in‐the‐money signaling call policy reduces more unsystematic equity risk than equity, callable straight debt, or their combination. The model is modified to incorporate asymmetric information at the issue stage to explain the stock price behavior at announcements of convertible debt sales.     

A NOTE ON THE MARGINAL COST OF DEBT CAPITAL

The firms marginal cost of debt capital was interpreted in this author's previous publications as the "full marginal cost of relaxing the money capital availability constraint' when the incremental money capital employed takes the form of debt capital. Account is thereby taken of the effects on financing costs of the increased risk exposure that debt financing implies for both debt and equity holders. The present paper clarifies a misconception in a recently published paper by Draper and Findlay, and exhibits the linkage between concepts relevant to the firm's fmancing decision and the general marginal analysis.     

A NOTE ON VICKERS' MARGINAL COST OF DEBT CAPITAL

Douglas Vickers has written extensively on the concept of the marginal cost of debt capital. His defmition is shown to be ambiguous and his derivation rather unusual. This paper points out the problems in his work and derives a conventional marginal cost of debt.     

THE CAPITAL STRUCTURE CHOICE: NEW EVIDENCE FOR A DYNAMIC TRADEOFF MODEL

Most academic insights about corporate capital structure decisions come from models that focus on the trade-off between the tax benefits and financial distress costs of debt financing. But empirical tests of corporate capital structure indicate that actual debt ratios are considerably different from those predicted by the models, casting doubt on whether most companies have leverage targets at all. In particular, there is considerable evidence that corporate leverage ratios reflect in large part the tendency of profitable companies to use their excess cash flow to pay down debt, while unprofitable companies build up higher leverage ratios. Such behavior is consistent with a competing theory of capital structure known as the "pecking order" model, in which management's main objectives are to preserve financing flexibility and avoid issuing equity.
The results of the authors' recent study suggest that although past profits are an important predictor of observed debt ratios at any given time, companies nevertheless often make financing and stock repurchase decisions designed to offset the effects of past profitability and move their debt ratios toward their target capital structures. This evidence provides support for a compromise theory called the dynamic tradeoff model, which says that although companies often deviate from their leverage targets, over the longer run they take measures to close the gap between their actual and targeted leverage ratios.