Valuation with Personal Taxes under Different Financing and Dividend Policies

by Johannes Sebastian Sümpelmann
Doctoral thesis
Date of Examination:2019-06-21
Date of issue:2019-06-26
Advisor:Prof. Dr. Stefan Dierkes
Referee:Prof. Dr. Stefan Dierkes
Referee:Prof. Dr. Olaf Korn
Referee:Prof. Dr. Michael Wolff
Persistent Address: http://dx.doi.org/10.53846/goediss-7528

 

 

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Abstract

English

The valuation of firms is one of the topics that valuation theorists and practitioners have addressed since the early stages of economic sciences. Firm valuations are regularly conducted using discounted cash flow (DCF) models in which expected future cash flows are discounted at capital-market-based cost of capital. In this regard, one of the corporate finance’s fundamental insights is that under debt financing the consideration of corporate taxes induces a value enhancing effect on equity market value (Modigliani & Miller, 1958, 1963). Thus, the financing policy of the firm needs to be taken into further consideration as it specifies how the firm determines its debt levels. Besides corporate taxes, it prevails consensus that personal taxes also matter when determining the equity market value because cash dividends are taxed in a different way than capital gains (e.g., Miller, 1977; Dempsey, 1996). The differentiated consideration of the personal taxation of equity investors allows accounting for the firm’s dividend policy. Dividend policy is defined as the decision of how much of the cash flow available for distribution is distributed to the equity investors and how much is retained by the firm. The distributed cash flow is taxed at the cash dividend tax rate, while the retained cash flow is taxed at the effective capital gains tax rate. As the effective capital gains tax rate is in general lower as the cash dividend tax rate, equity market value increases the more the firm engages in retaining cash flows. Hence, dividend policy, in addition to the financing policy, affects the level of equity market value (Miller & Modigliani, 1961; Rashid & Amoako-Adu, 1987, 1995; Dempsey, 2001; Scholze, 2008; Kuhner & Maltry, 2017). Overall, the present thesis further develops the valuation literature regarding the integration of personal taxes and dividend policy in valuation models. A problem of special interest is the simultaneous consideration of the financing and the dividend policy of the firm under corporate and personal taxes. Therefore, this thesis aims to provide a number of new insights by developing consistent and theoretically sound valuation models, which account for the firm’s financing and dividend policy.
Keywords: valuation; personal taxes; dividend policy; financing policy; cost of equity; share repurchases; equity market value; simulation
 
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