Investment, capital structure and agency costs with write-down equity

Zhiming Zhao, Wenjie Chen and Pengfei Luo

Journal of Economic Dynamics and Control, 2025, vol. 178, issue C

Abstract: We develop an investment and financing model in which a controlling shareholder holds write-down equity and extracts private benefits by diverting the firm's cash flows. The model highlights how write-down equity affects investment and financing decisions, and the aggregate agency costs arising from investment, financing, and private benefits diversion. We find that the write-down equity causes the controlling shareholder to delay investment, choose conservative debt financing, and reduce credit spreads. Additionally, under an exogenous capital structure, there exists an optimal write-down ratio that completely eliminates agency costs related to investment. An increase in the write-down ratio reduces agency costs from private benefits diversion. Conversely, under the optimal capital structure, increasing the write-down ratio increases agency costs related to financing and private benefits diversion. Thus, the write-down equity is an effective financial instrument to reduce agency conflicts between the controlling shareholder and principals (i.e., minority shareholders and debtholders), especially for firms with debt financing constraints.

Keywords: Write-down equity; Investment; Capital structure; Agency costs (search for similar items in EconPapers)
JEL-codes: G12 G31 G32 G34 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:178:y:2025:i:c:s0165188925001253

DOI: 10.1016/j.jedc.2025.105159

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