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Credit Spread And Liquidation Value-Based Debt Financing Constraint

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  • TAKASHI SHIBATA

    (Graduate School of Management, Tokyo Metropolitan University, Tokyo 192–0397, Japan2Statistical Laboratory, University of Cambridge, Cambridge CB3 0WB, UK)

  • MICHI NISHIHARA

    (Graduate School of Economics, Osaka University, Osaka 560-0043, Japan)

Abstract

This study examines the corporate credit spread of a firm that is constrained by an upper limit of debt issuance depending on the liquidation (collateral) value. We provide four important results. First, the upper limit of debt issuance may induce the firm to issue riskless (risk-free) debt. Second, the upper limit decreases the credit spread. Third, the credit spread increases with the liquidation value when the firm is financially constrained, while the credit spread decreases with the liquidation value when it is not. Fourth, the firm is likely to be financially constrained when cash flow volatility is high, the risk-free interest rate is low, corporate tax is high, and bankruptcy cost is high. Our results fit well with empirical studies.

Suggested Citation

  • Takashi Shibata & Michi Nishihara, 2019. "Credit Spread And Liquidation Value-Based Debt Financing Constraint," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 22(05), pages 1-27, August.
    • Handle: RePEc:wsi:ijtafx:v:22:y:2019:i:05:n:s0219024919500213
    DOI: 10.1142/S0219024919500213
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    References listed on IDEAS

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