Optimal Corporate Investment and Financing Policies: A Simple Quantitative Rule in a Novel General Setting

Abstract

We aim at obtaining a simple quantitative rule for the joint determining of optimal corporate investment and financing policies in an intertemporal setting. A novel general continuous-time framework, inspired by the optimal portfolio design literature, is first built. We derive the optimal assets-to-equity and debt-to-equity ratios. Novel principles - driven by speculation and hedging motives - for the corporate decision-making process are exposed. The rule is then simplified to offer an easily obtainable quantitative benchmark for the firm’s manager. We eventually show how the proposed behavior can be applied in practice.