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Distortion in corporate valuation: implications of capital structure changes

Jacob Oded (Faculty of Management, Tel Aviv University, Tel Aviv, Israel and School of Management, Boston University, Boston, Massachusetts, USA)
Allen Michel (School of Management, Boston University, Boston, Massachusetts, USA)
Steven P. Feinstein (Finance Division, Babson College, Wellesley, Massachusetts, USA)

Managerial Finance

ISSN: 0307-4358

Article publication date: 5 July 2011

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3427

Abstract

Purpose

The traditional discounted cash flows (DCF) valuation procedure used by financial analysts assumes that firms maintain a policy of fixed debt. However, empirical evidence suggests that many firms rebalance their debt. This paper seeks to explore the implication of this discrepancy for valuation of firms that undergo a capital structure change.

Design/methodology/approach

The approach taken is both theoretical and empirical.

Findings

The authors show how the valuation process should be modified for firms that are expected to rebalance their debt and demonstrate the distortion in value that results if the traditional DCF valuation procedure is used instead. Furthermore, they illustrate the significance of their results using a sample of the largest largest leveraged buyouts of the current decade.

Originality/value

To the authors' knowledge, this is the first investigation into this issue.

Keywords

Citation

Oded, J., Michel, A. and Feinstein, S.P. (2011), "Distortion in corporate valuation: implications of capital structure changes", Managerial Finance, Vol. 37 No. 8, pp. 681-696. https://doi.org/10.1108/03074351111146175

Publisher

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Emerald Group Publishing Limited

Copyright © 2011, Emerald Group Publishing Limited