Optimal Financing and Capital Structure Programs for the Firm

A Model of Capital Structure when Earnings are Mean-Reverting

“…There have been several earlier dynamic models of investment and financing interactions, such asKrouse (1972) andStiglitz (1973), where default-free debt is analyzed.…”

Optimal Control Theory

“…The problem of the optimal financing of the firm can be formulated as an optimal control problem. The formulations, such as those of Davis (1970), Krouse (1972), and Krouse and Lee (1973), permit the firm to finance its investments by retained earnings, debt, and/or external equity in various proportions which may vary over time. Note that earnings not retained are paid out as dividends to the firm's stockholders.…”

Stochastic Control of Corporate Investment when Output Affects Future Prices

“…Recalling the assumption of perfect and complete financial markets, V can be regarded as a financial claim and valued in the same way as other financial claims. 17 It follows that the net present value must satisfy the differential equation in (4) with a solution that can be characterized as where E* is the modified expectation operator (see equation (5) and footnote (10)), and V(T) represents the net present value at the firm's terminating date T (e.g., liquidation costs). Note that risk neutrality is not assumed, since risk adjustment is reflected in the modified expectation operator.…”

“…For simplicity, firm termination costs are ignored, in which case the net present value at termination is zero. It is assumed that the firm will terminate on or before time T, where T is chosen as sufficiently distant future time as discussed below (17) V(P,T) = 0 .…”

“…For some examples of financial policy formation with mathematical programming, see[33] and[8].2 See[30],[17], and[11] for some applications of deterministic control theory to the firm's financial control problem. See[22] and [28] for application of stochastic control theory to the firm's investment problem in the case of risk neutrality.…”