Capital structure puzzle: the interrelationship between leverage, taxes and other micro economic factors

Sinha, Pankaj and Bansal, Vishakha (2013): Capital structure puzzle: the interrelationship between leverage, taxes and other micro economic factors.

Abstract

The capital structure puzzle still remains unsolved. Every year there are many incidences of firms, reporting very high and risky levels of debt ratios. Since debt has tax advantages over other sources of capital, this paper employs simulated marginal tax rate (MTR) and its variants to study the tax effects on leverage ratios of profitable Indian companies. The paper analyses three different measures of leverage; debt to asset (DAR) ratio, incremental debt to total assets ratio (DINC) and debt to capital employed (DAR1) ratio. For each measure of leverage ratio, different specifications based on four variants of MTR have been considered. The results confirm significant tax effects on debt ratios of profitable Indian companies. It was found that DINC is highly autoregressive and independent variables considered in this paper explain around 55% of the variation in DAR1. The study suggests a new measure of retained earnings (ERTA).

• Item Type: MPRA Paper
• Language: English
• Keywords: Marginal tax Rate, debt, leverage, capital structure, tax, incremental debt, debt to equity ratio, capital employed, corporate finance, financial distress
• Subjects: G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy ; Financial Risk and Risk Management ; Capital and Ownership Structure ; Value of Firms ; Goodwill; G - Financial Economics > G3 - Corporate Finance and Governance > G38 - Government Policy and Regulation

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