Real Options, Taxes and Financial Leverage
Stewart C. Myers and
James A. Read
Critical Finance Review, 2020, vol. 9, issue 1-2, 29-76
We show how to calculate the after-tax values of real options, including the value of interest tax shields on debt supported or displaced by the options. The correct discount rate is after-tax. Our valuation method reveals the optionâ€™s â€œdebt capacityâ€ , which can be calculated from the adjusted present value and target debt ratio for the underlying asset, the option delta, and the amount of risk-free borrowing or lending that would be needed for replication. The debt capacity of a real call option is usually negative. The debt capacity of a real put option is always positive and greater than the value of the put. We review empirical implications for firmsâ€™ capital structure choices when real options are important.
Keywords: Real options; Financing policy (search for similar items in EconPapers)
JEL-codes: G31 G32 (search for similar items in EconPapers)
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Persistent link: https://EconPapers.repec.org/RePEc:now:jnlcfr:104.00000067
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