Corporate taxes, changing risk, and wealth transfers between shareholders, lenders, and the taxman

This paper examines how risk and corporate taxes jointly affectthe value of the debt and equity of a firm. We view thetotalpretax value of the firm as being divided between the taxman,lenders, and shareholders, and examine how increasing the riskof a leveraged firm, with no change in its pretax value, affectsthese claimants. We show that shareholders may gain while thetaxman loses, or vice versa, or that both gain at the expenseof lenders. The outcome depends on several factors includingthe ranking of the claims of the taxman and lenders. The analysisis extended to investments which expand the firm; here our conclusionsare at variance with some frequently expressed views on possibletax advantages of merging. We obtain different conclusions becausewe make allowance for the diversification effects of mergingon the value of the debt claims. A careful examination of thisrequires a precise mathematical formulation of the values ofthe tax, debt, and equity claims using option-pricing techniques.     

The Stability of a Drop Hanging from a Tube

The stability of a drop of liquid hanging from the horizontalcircular mouth of a tube has been investigated by means of thecalculus of variations. Weak perturbations are considered, inwhich the volume of the drop is held constant. It is shown thatthe drop is stable as long as its volume increases with itsheight.