The Mystery of ZeroLeverage Firms Ilya A. Strebulaev and Baozhong Yang Discussion by: Michael R. Rob

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The Mystery of Zero-Leverage FirmsIlya A.
StrebulaevandBaozhong YangDiscussion
byMichael R. Roberts2006 Western Finance
Association
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Summary

• An observation
• There is a significant fraction (11) of
  unlevered firms
• The question
• How can we rationalize these capital structures?
• Results
• We cant! Several explanations but none are
  entirely satisfactory
• Conclusion
• There is a lot of work that needs to be done in
  order to understand this puzzle.

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Overview

• What I like about the paper
• This is an interesting (and difficult) question
• The authors are honest
• Their findings have some important implications
• Remainder of the discussion
• Relevant theory interpretation
• A deeper puzzle
• Related papers

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Relevant Theory

• Paper points to a number of theory studies that
  are unable to reproduce these results
• Fischer, Heinkel, and Zechner (1989), Leland
  (1994, 1998), Leland and Toft (1996), Goldstein,
  Ju, and Leland (2001), Ju, Parrino, Poteshman,
  and Weisbach (2005), Morellec (2005), Strebulaev
  (2005, 2006)
• All of these papers assume investment is
  exogenous
• Endogenous investment will get you
• A significant fraction of low/zero levered firms
• Persistent leverage behavior
• See Hennessy and Whited (2005), Hennessy and
  Livdan (2005), and Gamba and Triantis (2006)
• Implication Maybe we should start thinking
  about investment as endogenous (theory empirics)

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Interpretation of Theory

• Information asymmetry is not equiv to a pecking
  order
• Cooney and Kalay (1993), Fulghieri and Lukin
  (2001), Halov and Hieder (2004), Hennessy and
  Livdan (2006), Leary and Roberts (2006), and
  Bolton and Dewatripoint (2006)
• Even Myers and Majluf (1984) does not necessarily
  imply a pecking order (Bolton and Dewatripont
  (2006))
• Thus, their tests/results do not really speak
  to information asymmetry, rather they are loosely
  to a pecking order story
• Firms issue stock when market-to-book is high
  could mean
• firms take advantage of mispricing because of
  crazy investors
• firms take advantage of mispricing because of
  info. asym.
• firms with high growth opportunities want to
  avoid debt overhang
• I dont think that they distinguish among these
  explanations

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Are Zero Leverage Firms Really Different?
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Matched Sample Comparisons

• Reinforces the underlying message of the paper
  What is going on with zero-leverage firms?

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Related Papers

• Other papers examining the zero- or low-leverage
  puzzle
• Minton and Wruck (2001)
• Lemmon and Zender (2001)
• There is much more intra-industry variation in
  capital structure than inter-industry
• Mackay and Phillips (2005)
• Differences of opinion
• Dittmar and Thakor (2006) and Faulkender,
  Milbourn, and Thakor (2006)
• Leverage is persistent we dont know how firms
  choose their desired level
• Lemmon, Roberts, and Zender (2006)

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Conclusions

• Zero-leverage firms is an important but
  unresolved question
• This paper suggests that existing explanations /
  proxies do not provide an adequate answer
• My final suggestion is to consider only a few
  explanations that you can definitively rule out,
  as opposed to discussing many
• (I think you already do this to some extent)