Many studies use the book value of debt as a proxy for its market value because most corporate debt does not trade. I call this practice the book value of debt (BVD) approximation, and it appears to be justified by the observation that the average market value of debt is close to its book value. Many corporate bonds, however, trade at values significantly different from their book values, and consequently the BVD approximation can create important biases. I compare the accuracy of the BVD approximation to Merton's option pricing (OPT) model of corporate debt valuation, and find consistent evidence that the Merton model provides more accurate estimates. I also show that this model is an easily estimated alternative to the BVD approximation. In short, the BVD approximation not only creates significant biases, but it is also an unnecessary simplification.

Myers and Majluf [Myers, S.C., Majluf, N.S., 1984. Corporate financing and investment decisions when firms have information that investors do not have. Journal of Financial Economics 13, 187–221.] showed that mispriced securities can lead managers with private information to invest inefficiently. It seems plausible that this problem would disappear in a fully revealing equilibrium, since information asymmetries are resolved and securities are priced correctly. In fact, Constantinides and Grundy [Constantinides, G.M., Grundy, B.D., 1989. Optimal investment with stock repurchase and financing as signals. Review of Financial Studies 2, 445–465.] claim that, in their model, any fully revealing equilibrium has efficient investment. This claim is incorrect, as infinitely many inefficient equilibria exist for the very example they work out. The inefficient outcomes survive the standard signaling-game equilibrium refinements. There are also examples that have fully revealing equilibria with inefficient investment but none with efficient investment.

This paper presents an asymmetric information model of share repurchases when shareholders have heterogeneous reservation values. Consistent with empirical evidence, managers in the model repurchase shares at a premium above the post-repurchase share value — transferring wealth from shareholders who do not tender to those who do — in order to signal that the firm is undervalued. Such dilutive repurchases would not occur under the classical assumption of perfectly elastic share supply; they depend critically on shareholder heterogeneity. It is also shown that repurchases are more efficient signals than other strategies like dividends and ‘burning money’. The model's implications are consistent with much empirical evidence regarding announcement returns, repurchase size, repurchase premiums and expiration-day price drops.

Research Methodology, Security market model, Prediction errors, Daily returns data

Research Methodology, Market model prediction errors, Omitted variables

Complexity has been linked to the quality of an income tax system (Dean, Keenan, and Kenney [1980]), including its possible influence on the system's ability to generate revenues (New York State Bar Association [1972]). Given the IRS' recent estimate that $81 billion in annual revenue is lost through noncompliance (IRS [1983, p. 21]), the question of whether tax complexity has a significant effect on taxpayers' reporting positions is a potentially important issue. Complexity represents but one strand in a web of interrelated factors and propositions influencing compliant tax reporting in a democratic society. Nevertheless, it has been singled out as a factor affecting compliance and a study of its effect thereon can be viewed as one step in an ongoing program of study of noncompliance. This study involved two distinct phases. The first phase was devoted to obtaining operational definitions of tax complexity, using multidimensional scaling. These definitions of tax complexity were then used in the second phase of the study to test for potential effects of complexity on reporting position selections in four different tax situations. While phase 1 is critical to phase 2 of my study, this paper highlights the results of the latter. Details of phase 1 can be obtained in Milliron [1984]. In section 2 I discuss previous literature involving tax complexity. Section 3 provides an overview of the methodology and the research issues studied. Sections 4 and 5 describe the data collection procedures

Corporate failure, Reporting delays, Information dissemination, Annual reports

Asset valuation, Replacement costs, Fixed asset lives, Depreciation

Information evaluation, Information systems, Group decision making, Group performance