The hidden value behind capital structure decisions

A Work Project, presented as part of the requirements for the Award of a Masters Degree in Finance from the NOVA – School of Business and Economics

I estimate the optimal capital structure for a growth company, for which market value is dictated by its highly volatile nature. I study the welfare impact of corporate taxes, analyzing their economic effect of inducing higher bankruptcy levels. Assuming that management always seeks to optimize the market value of company’s assets, I find a significant loss of value that varies negatively with volatility. Flow and stock insolvency are important for the maximization of capital structure, and I compare both, modeling the value of the company as an option on its revenues. These are not only highly significant for R&D and startup companies but also have significant welfare consequences. I compare the options of liquidation and re-financing and find a clearly important role of early liquidation for R&D frameworks. I complement the study with a comparative statics analysis estimating the impact of risk to the value of the firm and the optimal capital structure decision, for a cross-section of firms. The results present quantitative evidence that reinforce the literature of trade-off and capital structure applied to growth companies.