E. Carroll School of Management
Doctoral Seminar in Corporate Finance
This course has the objective of introducing doctoral students to
theoretical research in corporate finance. The emphasis will be on incomplete
information models, though a few models driven by other considerations will
also be studied. The first part of the course (around two thirds) will examine
the fundamentals of corporate finance theory (e.g., the theory of the firm's
choice of its capital structure and dividend policy under alternative
assumptions), as well as various tool areas in corporate finance (e..g, the
notion of moral hazard and agency problems, adverse selection and signalling,
various aspects of non-cooperative games with and without incomplete
information, and the equilibrium concepts in such games). The second part of
the course will focus on two or three important related topics which are the
focus of recent research in corporate finance (this part of the course changes
every year; it is suggested that students look at syllabi from earlier years
for references on other current topics of research in corporate finance) .
Pre-requisites: Since many of the models in corporate finance make use of
tools from information economics/game theory, some knowledge of these tools is
required. But those who do not have these tools but are willing to catch up
with some reading on their own should not have too many problems, since many
ideas in corporate finance are quite intuitive, and I will try to emphasize
intuition over mere technical detail wherever possible. For game theory, there
have been numerous excellent and easily accessible text books written in the
last four or five years. I will mention only three of these below:
Eric Rasmusen, Games and Information: An
introduction to game theory, Basil Blackell. (A basic book)
Gibbons, R., Game Theory for Applied
Economists, Princeton University Press, Princeton, New Jersey
Fudenberg, D., and J. Tirole, Game
Theory, M.I.T Press, Cambridge Massachusetts. (Fairly advanced)
Books for supplementary reading: Unfortunately, there are not many Ph.D. level text books
in corporate finance. A Ph. D. text book which provides at least some basic
coverage of the main topics is (referred to as Matos in this outline):
1. The Theory of Corporate Finance by Jean Tirole, Princeton University Press, 2005.
is a brand new book, by one of the top economists working in corporate
finance, game theory, and applied Industrial Organization. This is likely to
be very good (I have seen only the teaching notes version of this book).
J. A. de Matos, Theoretical Foundations
of Corporate Finance, Princeton University Press, 2002. This
is an earlier Ph.D. level text book.
are many good MBA text books. Two advanced M.B.A text books which summarizes
the ideas behind some of the earlier theory papers, and also much of the
empirical literature in corporate finance:
Copeland, T.A., and J.F. Weston, Financial
Theory and Corporate Policy, third edition, Addison-Wesley Publishing
Company (this book will be referred to as CW in the outline). Although this
book will not help you with any of the current research, it will give you a
quick introduction and a summary of the earlier theoretical and empirical
research in corporate finance, thus allowing you to place the current
literature in perspective.
Grinblatt, M., and S. Titman, Financial
Markets and Corporate Strategy, Irwin/McGraw-Hill, 1998. Chapters 17, 18
and 19 of this book provide a useful discussion of issues of financing
strategy facing the firm arising from asymmetric information and agency
relationships (the discussion is, however, only at the M.B.A level, and thus
serves only as a starting point, at an intuitive level, for Ph.D students).
course, the standard text book on corporate finance at the MBA level is:
R. A. Brealey and S. C. Myers, Principles of Corporate Finance, 7th
Edition (New York, McGraw Hill, 2002).
Other course materials: Most of the lectures will be based on academic papers. I
plan to make these available to you as we go along. The papers directly
relevant for class discussion on each topic are mentioned under that topic in
the outline below; however, the discussion will not be confined to these
papers, and additional papers may be added as we go along. I will also be
giving out copies of my class notes for every lecture.
Course Organization: The first part of the course will consist entirely of my
lectures; the second part will be a combination of my lectures and student
presentations. Each student will be required to write a short paper, either
synthesizing the literature in a certain area, or, for the more ambitious, a
paper which constitutes original research, which will be due approximately one
month after the end of the course. Students will be asked to work out hand-in
problem sets. Each student will also be asked to make a class presentation of
one or more papers (in the second part of the course), which should also be
chosen jointly with me. Students will also be asked to critique some of the
papers that other students are presenting. There will also be a final exam.
The final grade will thus depend on performance in the problem sets, final
exam, the research paper, and student presentation and other class
course grade is determined as follows:
Class presentation: 15%
Class participation and problem set: 15%
Critiques of papers: 10%
Research Paper/synthesis: 20 %
Final Exam: 40%
Office Hours: Office hours for this course will be after class
Wednesday 5-30 to 6:30 P.M. However, Ph.D students are welcome to drop by at
other times as well, or to set up an appointment for some other convenient
time (send me e-mail if you wish to make an appointment). The best way to
contact me is through e-mail (rather than by phone).
Part I: Fundamentals and Tools
The main papers that will be used in the discussion of each
topic are listed below.
Topic One: Corporate Finance
under Perfect Capital Markets: The Modigliani-Miller Propositions on Capital
F. and M. Miller "The Cost of Capital, Corporation Finance and the Theory
of Investment" American
Economic Review, June 1958, 261-297.
reading: Matos sec
2.1; CW, chapters 13 and 14 respectively, provide
a review (though a bit dated) of the large theoretical and empirical
literature on capital structure.
Topic Two: Taxes and Capital
F. and M. Miller "Corporate Income Taxes and the Cost of Capital" American
Economic Review, June 1963, 433-443.
M., "Debt and Taxes," Journal
of Finance, June 1977, 32, 261-276.
reading: Matos sec
Topic Three: Agency Problems
and Capital Structure.
M. and W. Meckling, "Theory of the Firm: Managerial Behavior, Agency
Costs, and Ownership Structure," Journal
of Financial Economics, October 1976, 3, 305-360.
S.C. "Determinants of Corporate Borrowing" Journal of Financial
Economics, November 1977, 147-176.
M., "Agency Costs of Free Cash Flow, Corporate Finance, and
Takeovers," American Economic
Review, May 1986, 76, 323-329.
reading: Matos sec
Topic Four: Adverse
Selection, Signaling, and Non-cooperative game theory.
and Dynamic Games of complete information: pure and mixed strategies; Iterated
Dominant Strategy Equilibrium; Nash Equilibrium; Sub-game Perfect Nash
Equilibrium. Static and Dynamic Games of Incomplete information; Equilibrium
refinements: Bayesian Nash Equilibrium, Perfect Bayesian Equilibrium,
Sequential Equilibrium, and the Cho-Kreps Intuitive Criterion.
G. A., "The market for lemons: Quality Uncertainty and the Market
Mechanism," The Rand Journal of
M., "Job Market Signaling," Quarterly
Journal of Economics 87, 355-374.
I. and D. Kreps, "Signaling Games and Stable Equilibria," Quarterly
Journal of Economics, May 1987, 179-221.
various text books I have mentioned above on game theory will be directly
useful for this part of the course (as well as for the other parts as
reference books for various tools from game theory applied to corporate
Topic Five: Adverse Selection
and Capital Structure; Issuing various Corporate Securities Under Asymmetric
S., "The Determination of Financial Structure: The Incentive Signalling Approach," Bell Journal of Economics, Spring 1977, 23-40.
H. and D. Pyle, "Information Asymmetries, Financial Structure, and
Financial Intermediation," Journal
of Finance, 32, 1975 371-388.
S. and N. Majluf, "Corporate Financing and Investment Decisions When
Firms Have Information that Investors Do Not Have," Journal of Financial Economics, June 1984,187-221.
reading: Matos sec
Topic Six: Dividend Policy
Under Perfect Capital Markets and
under Asymmetric Information
Modigliani-Miller Proposition on Dividends. Dividend Policy Under Asymmetric
Information and Taxes.
S., "Imperfect Information, Dividend Policy, and the 'Bird in the Hand'
Fallacy," Bell Journal of Economics,
Spring 1979, 259-270.
K. and J. Williams, "Dividends, Dilution, and Taxes:
A Signalling Equilibrium," Journal
of Finance, September 1985, 40, 1053-1070.
M. and K. Rock, "Dividend Policy Under Asymmetric Information," Journal
of Finance, September 1985, 40, 1031-1051.
Chapter 4; CW chapters 15 and 16 respectively, provides some background
reading, as well as a quick summary (though somewhat dated), of the large
theoretical and empirical literature on dividend policy.
Topic Seven: Initial Public
Offerings (IPOs): An Introduction
K., 1986, Why new issues are underpriced, Journal of Financial Economics 15,
T., 1993, The pricing of initial public offerings: A dynamic model with
information production, Journal of
Finance 48, 285-304.
T., and P. Fulghieri, Investment bank reputation, information production, and
financial intermediation, Journal of
F. and G. Faulhaber, 1989, Signaling by underpricing in the IPO market, Journal
of Financial Economics 23, 303-23.
Topic Eight: Security
Design/The Structure of Corporate Liabilities
David and Martin Hellwig (1985), "Incentive Compatible Debt Contracts:
The One Period Problem," Review
of Economic Studies, 52, 646-663.
R. (1979) "Optimal contracts and Competitive Markets with Costly State
Verification," Journal of Economic
Theory, 21, 265-293.
P., and P. Bolton, 1992, “An ‘Incomplete Contracts’ Approach to
Financial Contracting,” Review of
Economic Studies 59, 473-494.
P. and D. Scharfstein, "Optimal debt structure and the number of
creditors," Journal of Political
Economy 104:1 (January 1996), 1-25.
O. and J. Moore (1989), "Default and Renegotiation: A Dynamic Model of
Debt," mimeo, 1989.
Milton and Artur Raviv (1989), "The Design of Securities," Journal
of Financial Economics, 24, 255-287.
F. and D. Gale (1988) "Optimal Security Design," Review of Financial Studies, 1, 229-263.
Part II: Seminar on Some Current Research Topics in
this part of the course, we will review in some detail several recent papers
in two or three areas of current research in corporate finance. Students will
be expected to present the papers in this part of the course (to be determined
later: I am currently choosing these topics). Each paper presented should also be critiqued by two students (thus, each
student will have to turn in multiple critiques). Students have to hand in
their written critiques of each paper on the day of its presentation.
Critique-writers, as well as presenters of various papers, should come to class prepared to answer questions
arising in class discussion regarding these papers.
presentation must adhere strictly to the following format (1) Statement of the
problem studied; (2) Brief survey of the literature; (3) Concise, intuitive,
explanation of the argument producing the major results (for theory papers) or
empirical methodology; (4) Summary of main
results; (5) Critical
examination of the paper; (6)
Sketch of major extensions to the paper with specific suggestions about
possible solution techniques (for theory) or empirical methodology/data for
these extensions (students who can
effectively accomplish the last point will get extra credit).
Most important, each presentation must be both informative and
must be between three to six pages in length (depending on the paper). The
format of the critiques should be roughly along the following lines: (1)
Statement of the problem studied; (2) Brief survey of the literature; (3)
Concise, intuitive explanation of the argument producing the major results
(for theory papers) or empirical methodology; (4) Summary of results; (5)
Critical examination of the paper.