Fixed Life Projects : Agency Conflicts and Optimal Leverage

This paper analyses a model of the conflicts between equityholders and debtholders, regarding the optimal exercise moment for a firm to invest in a concession contract. This setting reflects the reality of, not only traditional concessions, but also image rights and audiovisual rights contracts.The results support the coexistence of two different incentives (overinvestment and underinvestment) in one single type of real flexibility (option to invest). Overinvestment incentives are shown to clearly dominate underinvestment incentives, in terms of their impact in the value of the firm, and they influence the investment behaviour of equityholders at expiry of the investment option. Varying predictions are presented regarding agency costs and optimal debt levels, under different market conditions and for different asset characteristics, and this fact reiterates the impact of agency conflicts in lowering optimal debt levels. The results also show how in different cases different debt repayment schedules can optimize the value of the firm operating the concession, even if in some of these cases the optimal debt repayment schedule is the one more sensitive to agency costs