Corporate finance
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Corporate Finance: Key Insights and Developments
Corporate Finance and Corporate Governance
Corporate finance and corporate governance are deeply intertwined, with debt and equity serving not just as financial instruments but as governance structures. Debt governance operates on strict rules, while equity governance allows for greater discretion. The choice between debt and equity financing is influenced by the characteristics of the assets involved. Redeployable assets are better financed through debt due to lower transaction costs, whereas non-redeployable assets benefit from equity financing. This approach is supported by examples from leasing and leveraged buyouts, illustrating the practical application of these principles.
International Variations in Corporate Finance
A comparative study of corporate finance methods across five countries from 1970 to 1985 reveals significant variations in financing patterns. These differences are not easily explained by traditional corporate finance theories, such as taxation. Instead, the relationships between borrowers and lenders, which establish long-term commitments, play a crucial role. This finding challenges the traditional separation between investment and finance, suggesting that the terms of finance significantly influence future control allocations.
Integrated Models of Corporate Financing Decisions
An integrated model of corporate financing decisions highlights the importance of balance sheet constraints and the interdependent nature of financing decisions. This model, while not a complete theory, seeks to identify empirical regularities that can guide future theoretical developments. Key findings indicate that market values of long-term debt and equity are critical determinants of corporate security issues.
Evolution of Corporate Finance Theory
Over the past 25 years, corporate finance theory has evolved from focusing on the division of cash flow among security holders to understanding how the structure of claims affects the cash flow stream itself. This shift is driven by the recognition of individually motivated agents within corporations. Other significant developments include the acknowledgment of information asymmetries, the role of private benefits of control, and the application of option pricing to real investments.
Corporate Finance During Financial Crises
The NBER's Corporate Finance Program has extensively studied the financial crisis, identifying key causes such as the financing of low-income borrowers through exotic financial instruments and the willingness of banks to take on significant risks. This research has laid the foundation for understanding credit booms, illiquidity, bank runs, and credit crunches, providing valuable insights into the dynamics of financial crises.
Corporate Policy Decisions
Empirical evidence suggests that contracting theories are more influential in explaining variations in corporate financing, dividend, and compensation policies than tax-based or signaling theories. This indicates that firm characteristics play a significant role in shaping corporate policy decisions.
Policy-Related Risks and Corporate Financing in China
An analysis of China's publicly listed firms from 2013 to 2017 shows that policy-related risks, such as economic policy uncertainty and geopolitical risk, negatively impact corporate financing decisions. The effect is more pronounced on debt financing compared to equity financing. Additionally, firm- and country-level factors are essential determinants of corporate financing decisions, with financially constrained and manufacturing firms being more affected by policy-related risks.
Corporate Finance and Financial Institutions
Corporate finance theory is applicable to financial institutions, despite their unique features and regulatory constraints. The private incentives of regulated firms often complicate regulatory oversight, but the fundamental principles of corporate finance remain relevant.
Major Theories of Corporate Financing
The four major theories of corporate financing—Modigliani-Miller, trade-off, agency, and pecking-order—each offer conditional insights. Large, safe firms with tangible assets tend to borrow more, while highly profitable firms with valuable growth opportunities borrow less. These tendencies align with multiple theories, suggesting that a deeper understanding of agency issues and the co-investment of human and financial capital is necessary for further progress.
Conclusion
Corporate finance is a complex field influenced by governance structures, international variations, integrated decision models, evolving theories, and policy-related risks. Understanding these factors is crucial for making informed financing decisions and navigating the challenges posed by financial crises and regulatory environments.
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