The value of tax shields with a fixed book-value leverage ratio

Pablo Fernandez

No D/612, IESE Research Papers from IESE Business School

Abstract: The value of tax shields depends only on the nature of the stochastic process of the net increases of debt. The value of tax shields in a world with no leverage cost is the tax rate times the current debt plus the present value of the net increases of debt. We develop valuation formulae for a company that maintains a fixed book-value leverage ratio and show that it is more realistic than to assume, as Miles-Ezzell (1980) do, a fixed market-value leverage ratio. We also show that Miles-Ezzell assume that the increase of debt is proportional to the increase of the free cash flows.

Keywords: Value of tax shields; present value of the net increases of debt; required return to equity (search for similar items in EconPapers)
JEL-codes: G12 G31 G32 (search for similar items in EconPapers)
Pages: 30 pages
Date: 2005-10-15
New Economics Papers: this item is included in nep-cfn and nep-fin
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