The Debt-Equity Choice

This paper compares U.S. firms that issued or repurchased significant amounts of equity between 1978 and 1993 to those that issued or repurchased debt. We find that firms are most likely to increase debt and repurchase equity when they have less debt than is predicted by a cross-sectional leverage regression. In addition, the likelihood of issuing debt rises with the firms' past profitability. Our results confirm previous findings that firms are most likely to issue equity after experiencing a share price increase. In contrast to our other findings, this last result appears to be inconsistent with the hypothesis that firms make choices that move them towards a target debt ratio. The paper concludes by exploring a variety of explanations for the positive relation between share price runups and equity issuance