Tse, ASL;
(2020)
Dividend policy and capital structure of a defaultable firm.
Mathematical Finance
, 30
(3)
pp. 961-994.
10.1111/mafi.12238.
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Abstract
Default risk significantly affects the corporate policies of a firm. We develop a model in which a limited liability entity subject to default at an exponential random time jointly sets its dividend policy and capital structure to maximize the expected lifetime utility from consumption of risk-averse equity investors. We give a complete characterization of the solution to the singular stochastic control problem. The optimal policy involves paying dividends to keep the ratio of firm's equity value to investors' wealth below a critical threshold. Dividend payout acts as a precautionary channel to transfer wealth from the firm to investors for mitigation of losses in the event of default. Higher the default risk, more aggressively the firm leverages and pays dividends.
| Type: | Article |
|---|---|
| Title: | Dividend policy and capital structure of a defaultable firm |
| Open access status: | An open access version is available from UCL Discovery |
| DOI: | 10.1111/mafi.12238 |
| Language: | English |
| Additional information: | This version is the author accepted manuscript. For information on re-use, please refer to the publisher's terms and conditions. |
| Keywords: | capital structure, default risk, dividend policy, HJB equation, singular stochastic control |
| UCL classification: | UCL UCL > Provost and Vice Provost Offices > UCL BEAMS UCL > Provost and Vice Provost Offices > UCL BEAMS > Faculty of Maths and Physical Sciences UCL > Provost and Vice Provost Offices > UCL BEAMS > Faculty of Maths and Physical Sciences > Dept of Mathematics |
| URI: | https://discovery.ucl.ac.uk/id/eprint/10137457 |
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