Lessons in Corporate Finance, 2nd Edition

CHAPTER 12A Continuation of Capital Structure Theory

This is the second-to-last chapter in this section, which spans Chapters 5 through 13 and focuses on how firms finance themselves as well as what financial policies they should choose. This chapter includes a review of the last seven chapters and is similar to Chapter 6, which introduced M&M and capital structure theory. While Chapter 6 took us through comparative statics, this chapter will extend our discussion to dynamics.

So sit back and enjoy the review. We will indicate the sections during which you should pay more attention. The chapter starts with some fairly simple examples but gets more complex as we develop these examples. It also gets more into the second-order effects of what we have previously discussed. Remember, this is a review; you already know most of the concepts.

We are going to emphasize two approaches here: first, we are going to outline the theory. Second, we will discuss what the empirical research (empirics) shows. For some of this chapter, finance has the theory “down” pretty well (that is, finance is pretty confident of the theory), and the empirics support it (that is, the empirical research is consistent with the theory). For other parts of this chapter, there is a theoretical structure but it is not very realistic or consistent, or the empirical work contradicts itself or has not been done.

A polite way to say all this is that finance changes. Hopefully, if you read our tenth edition of this book ...