Theoretical Research On Capital Structure From Contract Perspective

The Capital Structure mainly represents the relative proportional relationship among the resources of different capital. It is a long debating topic in the academic field whether the proportional relationship itself has an impact on the value of a firm, or whether exists an optimal Capital Structure. Modigliani and Miller's non-correlated proposition of Capital structure has brought extensive concerns among Western economists and financers and it has become the foundation and reference frame of modern capital structure theory. In the late 1970s, introduction of contracts theory broaden the early capital structure theory greatly. Contracts theory of capital structure mainly research when investment opportunity is given and firm needs financing from the exterior, how contract forms of securities and loans (bonds or stocks) are decided. Because the repayment (visible or implicit) to investors takes contract forms, thus, the allocation of the investing project's cash flow is one of the factors which the firm should take into consideration when devising financial contracts; However, the allocation of cash flow depends on the allocation of the firm's control rights, therefore, the allocation of investing cash flow and control rights are two main lines of contracts theory of capital structure. It runs through three uppermost analysis framework of the theory: agency costs, asymmetric information, and firm's control rights.In the analysis framework of agency costs, the contract relationship is summed up a principal-agent relationship. Because the object functions of principals and agents are not unanimous, it leads to interests conflict between them and relevant agency costs. Because the managers cannot own 100% power of asking for surplus (that is to say, sharing the firm's profits and undertaking limited duty according to the proportion), they are to run for extra consumer allowance instead of going all out to make full use of the firm's resources like complete owners, so it leads to the agency costs of financing by equity. Though it can reduce the above-mentioned agency costs to finance by debts, another type of agency costs is to come up. As the managers have the power to own the surplus, they will have the incentive to pursue the investment projects with high risks and high gains. They can acquire the profits of the projects when it succeeds and leave risks to the creditors. But if the investors (stockholders and creditors) have rational expectations, they will deduct the agency costs on the value of the firm that they own. Consequently, the managers will undertake the agency costs. Therefore, the optimal firm ownership (or capital) structure should...