A Bargaining Theory of the Leverage-Profitability Relationship

Paolo Panteghini

No 12639, CESifo Working Paper Series from CESifo

Abstract: This paper extends the Leland trade-off model by introducing shareholder creditor bargaining over the perpetual debt coupon. A single parameter ϕ ∈ (0, 1) measures shareholder bargaining power and indexes the deviation of the negotiated coupon from the firm-value-maximising level. The main result is sharp: at the parity configuration ϕ = 1/2, the bargaining solution exactly recovers the Leland firm-value optimum, irrespective of every other parameter of the model. Deviations from parity generate a structural wedge whose direction is signed by ϕ − 1/2. When shareholders dominate (ϕ > 1/2), the negotiated coupon undershoots the value-maximising level and increases in shareholder power push leverage down while pushing earnings yield up, generating the negative leverage–profitability slope documented since Titman & Wessels (1988). When creditors dominate (ϕ

Keywords: capital structure; trade-off theory; bargaining; leverage-profitability puzzle; insolvency efficiency (search for similar items in EconPapers)
JEL-codes: G32 G33 H25 K22 M41 (search for similar items in EconPapers)
Date: 2026
New Economics Papers: this item is included in nep-acc and nep-gth
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