Is 100 Percent Debt Optimal? Three Essays on Aggressive Capital Structure and Myth of Negative Book Equity Firms

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This dissertation comprises of three related essays in regard of puzzling negative book equity phenomenon among U.S. public firms. In essay 1, I present the evidence that there is an increasing trend of negative book equity firms over the past 50 years, from 0.3% up to over 5% among publicly traded firms in US. In contrast to previous research which generally classify these firms as distressed firms with highly likelihood of bankruptcy, I propose a new method to separate Healthy Negative Book Equity Firms (HNBEF) from relatively more distressed negative book equity firms. The results show that HNBEF have much ... continued below

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Luo, Haowen August 2016.

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  • Luo, Haowen

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Description

This dissertation comprises of three related essays in regard of puzzling negative book equity phenomenon among U.S. public firms. In essay 1, I present the evidence that there is an increasing trend of negative book equity firms over the past 50 years, from 0.3% up to over 5% among publicly traded firms in US. In contrast to previous research which generally classify these firms as distressed firms with highly likelihood of bankruptcy, I propose a new method to separate Healthy Negative Book Equity Firms (HNBEF) from relatively more distressed negative book equity firms. The results show that HNBEF have much higher net income and interest coverage ratio, they survive longer, and pay more dividends. More interestingly, these firms are often actively increase share repurchases and debt issuance. These facts, combined with their strong profitability, indicate that managers of these firms are actively increasing their leverage and choose to be negative book equity firms.
To explain the existence of HNBEF, in essay 2, I investigate several possible reasons that may contribute to the extreme leverage of these firms. I find that HNBEF are substantially undervalued by their book assets as stated on the balance sheet. In addition, the value of intangible assets, especially those off-balance sheet intangible assets, is positively related to the probability of becoming HNBEF. Moreover, I find that characteristics of intangible assets and firms also play important role on existence of HNBEF. Specifically, I find that both liquidity and redeployability of intangible assets are positively related with the probability of becoming HNBEF. Also, firms associated with closer borrower-lender relationship are more likely to become HNBEF.
To investigate if the aggressive capital structure adopted by HNBEF is optimal, in essay 3, I performed several tests to analyze how these firms differ from other firms in terms of operating performance, corporate governance and firm value. My research finds that compared to firms from same industry and with similar size, managers of HNBEF invest more heavily in their own firms, and HNBEF have better corporate governance. In addition, HNBEF are associated with better operating performance and higher value.

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  • August 2016

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  • Aug. 31, 2016, 10:41 p.m.

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  • Oct. 25, 2016, 9:45 a.m.

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Luo, Haowen. Is 100 Percent Debt Optimal? Three Essays on Aggressive Capital Structure and Myth of Negative Book Equity Firms, dissertation, August 2016; Denton, Texas. (https://digital.library.unt.edu/ark:/67531/metadc862869/: accessed May 21, 2019), University of North Texas Libraries, Digital Library, https://digital.library.unt.edu; .