The turbulent decade of the 1980s completely restructured the financial system of the 1990s. Deregulation and rising competition led to record numbers of failures among depository…
Abstract
The turbulent decade of the 1980s completely restructured the financial system of the 1990s. Deregulation and rising competition led to record numbers of failures among depository institutions in the U.S., especially savings and loan associations. These failures have caused tremendous taxpayer losses, which are estimated at around $200 billion in present value terms. Financial markets became increasingly volatile, with increased price movements in bond, stock, and currency markets. These events triggered both public and private sector responses, including increased regulatory standards for safety and soundness and financial innovation. Additionally, the fall of communism in Eastern Europe and the former Soviet Union, now known as the New Independent States (NIS), as well as the trend toward trading blocks, including the continuing process of European unification and the North American Free Trade Agreement (NAFTA) between the U.S., Canada, and Mexico, have greatly increased the demand for growth capital in a global sense.
The purpose of this paper is to show that distinguishing between gross and net tax shields arising from interest deductions is important to firm valuation. The distinction affects…
Abstract
Purpose
The purpose of this paper is to show that distinguishing between gross and net tax shields arising from interest deductions is important to firm valuation. The distinction affects the interpretation but not valuation of tax shields for the famous Miller’s (1977) model with corporate and personal taxes. However, for the well-known Miles and Ezzell’s (1985) model, the authors show that the valuation of tax shields can be materially affected. Implications to the cost of equity and optimal capital structure are discussed.
Design/methodology/approach
This paper proposed a simple tax shield clarification that distinguishes between gross and net tax shields. Net tax shields equal gross tax shields minus personal taxes on debt. When an after-tax riskless rate is used to discount shareholders’ tax shields, this distinction affects the interpretation but not valuation results of the Miller’s model. However, when the after-tax unlevered equity rate is used to discount tax shields under the well-known Miles and Ezzell’s (1985) model, the difference between gross and net tax shields can materially affect valuation results. According to the traditional ME model, both gross tax shields and debt interest tax payments (i.e. net tax shields) are discounted at the after-tax unlevered equity rate. By contrast, the proposed revised ME model discounts gross tax shields at the unlevered equity rate but personal taxes on debt income at the riskless rate (like debt payments). Because personal taxes on debt are nontrivial, traditional ME valuation results can noticeably differ from the revised ME model to the extent that after-tax unlevered equity and debt rates differ from one another.
Findings
For comparative purposes, the authors provide numerical examples of the traditional and revised ME models. The following constant tax rates and market discount rates are assumed: Tc=0.30, Tpb=0.20, Tps=0.10, r=0.06, and ρ=0.10. Table I compares these two models’ valuation results. Maximum firm value for the traditional ME model is 7.89 compared to 7.00 for the revised ME model. At a 50 percent leverage ratio, equity value is reduced from 3.71 to 3.49, respectively. Importantly, the traditional ME model suggests that firm value linearly increases with leverage and implies an all-debt capital structure, whereas firm value stays relatively constant as leverage increases in the revised ME model. These capital structure differences arise due to discounting debt tax payments with the unlevered equity rate (riskless rate) in the traditional ME (revised ME) model. Figure 1 graphically summarizes these results by comparing the traditional ME model (thin lines) to the revised ME model (bold lines).
Research limitations/implications
Textbook treatments of leverage gains to firms or projects with corporate and personal taxes should be amended to take into account this previously unrecognized tradeoff. Also, empirical analyses of capital structure are recommended on the sensitivity of leverage ratios to the gross-tax-gain/debt-personal taxes tradeoff.
Practical implications
Financial managers need to understand how to value interest tax shields on debt in making capital structure decisions, computing the cost of capital, and valuing the firm.
Social implications
The valuation of interest tax shields in finance is a long-standing controversy. Nobel prize winners Modigliani and Miller (MM) wrote numerous papers on this subject and gained fame from their ideas in this area. However, application of their ideas has changed over time due to the Miles and Ezzell’s (ME) model of firm valuation. The present paper adapts the pathbreaking ideas of MM to the valuation framework of ME. Students and practitioners in finance can benefit by the valuation results in the paper.
Originality/value
No previous studies have recognized the valuation issues resolved in the paper on the application of the popular and contemporary ME model of firm valuation to the MM valuation concepts. The new arguments in the paper are easy to understand and readily applied to firm valuation.
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James Kolari and Asghar Zardkoohi
The now‐famous work of Modigliani and Miller (MM) (1) asserted that firms should prefer to use debt over equity in financing assets. That prescription holds that there exists…
Abstract
The now‐famous work of Modigliani and Miller (MM) (1) asserted that firms should prefer to use debt over equity in financing assets. That prescription holds that there exists realisable value in the tax deductibility of interest payments. The deductibility benefit lowers the cost of debt with attendant favourable reduction in the cost of capital. The effect translates into greater firm value for several reasons. First, the economic margin above capital cost increases. Second, more projects are good and can be undertaken by the firm allowing the garnering of increments of value. The conception is logical. The supporting theory is rigorous. However, a practical problem complicates matters. Namely, debt usage raises the possibility that firm earnings will not be sufficient to meet promised debt obligations. In this case the firm must declare itself bankrupt. Thus, debt is a two‐edged sword.
Robert C. Moussetis, Ali Abu Rahma and George Nakos
This paper examined the relationships between national culture and strategic behavior in the banking industry in Jordan and U.S. The study first developed a strategic posture and…
Abstract
This paper examined the relationships between national culture and strategic behavior in the banking industry in Jordan and U.S. The study first developed a strategic posture and secondly a cultural profile for the top management of the research domain. The strategic posture suggested the readiness for strategic response from managers. The degree of readiness was correlated with the constructed cultural profile of the managers and financial performance of the banks. The study found significant relationships between certain national cultural strategic characteristics, (risk propensity, time orientation, and openness to change, uncertainty avoidance and managerial perception of control over the environment) strategic behavior and financial performance.
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Aims to examine the performance affects of strategic integration in retail banking services.
Abstract
Purpose
Aims to examine the performance affects of strategic integration in retail banking services.
Design/methodology/approach
Using a survey of retail banking executives, it is examined as to how the role of operations and marketing areas can assist retail banks to shape their competitive strategies.
Findings
It is found that proactiveness and competitive strategy substantially affect a retail bank's performance based on the strength of integration of operations and marketing areas.
Research limitations/implications
Research is limited to retail banking services.
Originality/value
The research broadens the scope of the strategic fit concept towards the analysis of performance effects due to functional integration in retail banks.
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An analysis of domestic and foreign banks’ internal performance by investigating their financial ratios shows that banks in Bahrain, Oman, the United Arab Emirates (GCC countries…
Abstract
An analysis of domestic and foreign banks’ internal performance by investigating their financial ratios shows that banks in Bahrain, Oman, the United Arab Emirates (GCC countries) have improved their performance over the past several years. Commercial banks in these GCC economies are well capitalised and have adopted modern banking services. Most banks are found to be financially sound by international standards, measured by all key financial ratios. Their operations can be characterised by satisfactory asset quality, more than minimum BIS capital/asset ratio, and high level of profitability. External performance is measured by evaluating banks’ market shares, regulatory compliance and public confidence; and most of the banks show better progress. Harmonization of the banks’ supervisory and accounting systems towards IAS has contributed to the safety and competitiveness of the banking sector.
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Martin R.W. Hiebl, Rainer Baule, Andreas Dutzi, Volker Stein and Arnd Wiedemann
Aviv Shoham, Felicitas Evangelista and Gerald Albaum
This study adopts the Miles and Snow typology as a framework for analyzing export performance of manufacturing firms. The study investigates the role of distinctive competence and…
Abstract
This study adopts the Miles and Snow typology as a framework for analyzing export performance of manufacturing firms. The study investigates the role of distinctive competence and various strategic responses of firms belonging to each strategic type on their foreign market performance. The results of this study show that a firm’s strengths and strategic responses are related and that the impact of strategic responses on export performance differs according to the firm’s strategic type. Based on these results, the strengths that defenders, prospectors and analyzers should build and maintain as well as the strategic responses that each should pursue are identified.
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Jialin Song, Yiyi Su, Taoyong Su and Luyu Wang
The purpose of this paper is, from a resource accumulation and resource allocation perspective, to examine the variant effects of government subsidies among firms with varying…
Abstract
Purpose
The purpose of this paper is, from a resource accumulation and resource allocation perspective, to examine the variant effects of government subsidies among firms with varying levels of market power and to test how industry competition moderates the relationship between market power and allocative efficiency of government subsidies.
Design/methodology/approach
This study explores the relationship between government subsidies and firm performance from a resource-based view. The authors study the moderating role of market power and three-way interaction between subsidy, market power and industry competition on firm performance. The authors test their hypotheses using a sample of Chinese A-share manufacturing firms from 2006–2019. The authors apply firm-level panel data regressions and conduct a series of robustness tests. The marginal effect of market power and industry competition is explored via three-way moderator effect models.
Findings
This study finds that government subsidies are negatively related to firm performance. Market power, on average, strengthens the negative effect of government subsidies on performance, but such a reinforcement effect is neutralized when industry competition is intense. Government subsidies are least efficiently used when firms have market power and industry competition is low. In addition, the authors use different forms of firm performance and a various of robustness tests to verify their assumptions.
Originality/value
This paper contributes to the literature as follows. First, the authors look into subsidy–performance problem from the perspective of the resource-based view and contribute to explaining and mitigating the divergence of current findings on the subsidy–performance relationship. Second, the authors introduce market power and industry competition as moderators to study how resource allocative efficiency affects the subsidy–performance relationship. Third, the authors propose that managerial incentives have played an important role in the allocation of government subsidies, which enriches management practices.
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Michael T. Manion and Joseph Cherian
The paper seeks to show that the strategic types of service marketers (e.g. Prospectors, Defenders or Analyzers) match the types of success measures that they use to evaluate new…
Abstract
Purpose
The paper seeks to show that the strategic types of service marketers (e.g. Prospectors, Defenders or Analyzers) match the types of success measures that they use to evaluate new services.
Design/methodology/approach
A theory is developed to show why service marketers of different strategic types use different success measures for the evaluation of new services. Using responses from 202 financial services marketers, strategic types are shown to relate in theoretically expected ways with the importance ratings of the categorized success measures.
Findings
Notable relationships among strategic types and their success measure are identified. Prospectors, for example, attach greater importance to growth performance measures, consistent with the growth orientation of their service development programs. Defenders, on the other hand, attach more importance than Prospectors to efficiency performance measures, which relate to their programs' efficiency orientation. Analyzers, interestingly, place more emphasis on objectives‐based performance measures, including strategic fit, than Prospectors.
Research limitations/implications
The sampling frame purposely contains only US financial services firms; as such, future research may build upon this single‐industry, single‐country study.
Practical implications
Academic success literature generally disregards the strategic types of respondents in measuring the success of service development programs. Practitioners, however, seek performance measures that are consistent with their firm's business strategy. This study provides a categorization of the most important success measures as appropriate to different strategic types.
Originality/value
The service success literature has often dealt with the question of “what causes success?” and has rarely confronted, head‐on, the question of “what is success?”. This paper addresses this critical research gap.