The firm‐specific nature of debt tax shields and optimal corporate investment decisions

Abstract

Purpose

While an operation's unlevered value is objective, the value of the debt tax shield is subjective since it depends on the capital structure policy of the firm that owns the operation. The purpose of this paper is to explore the implications of this subjective nature of debt tax shield value for corporate investment decisions.

Design/methodology/approach

The study develops a simple theoretical model.

Findings

The paper shows that even a low probability of selling a project in the future to a firm with a different tax shield value can significantly affect a project's weighted average cost of capital (WACC) and total value.

Practical implications

Managers should be aware of this issue when making corporate investment decisions.

Originality/value

This is the first study to address the implication of the subjective nature of debt tax shield value.

Citation

Eisdorfer, A. and O'Brien, T.J. (2012), "The firm‐specific nature of debt tax shields and optimal corporate investment decisions", Managerial Finance, Vol. 38 No. 6, pp. 560-570. https://doi.org/10.1108/03074351211226229