Wilmott Magazine, Nov/Dec 2005, pp. 84-91

Visitor number 9690 as of March 17, 2005

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A Generalised Procedure for Locating the Optimal Capital Structure

Ruben D. Cohen (e-mail)

Abstract

We present here a generalisation of an earlier approach for determining and locating the optimal capital structure of a corporate firm. The approach is the “maximum-value” methodology and the generalisation extends the original problem to one where the firm loses flexibility because of constraints and, therefore, has to move along a specific value-vs-leverage path to get to the optimal capital structure. A practical case of this could, for instance, be that the firm is forced to maintain a constant value while it increases or decreases its leverage. Other types of constraints are also considered and discussed.