Optimal Investment and Financial Strategies under Tax-Rate Uncertainty


Addresses for correspondence: Alessandro Fedele, Department of Economics, University of Brescia, Via S. Faustino 74/B, 25122, Brescia, Italy. Tel.: +39 030 298 8827; fax: +39 030 298 8837; e-mail: fedele@eco.unibs.it


Abstract. In this paper, we apply a real-option model to study the effects of tax-rate uncertainty on a firm's decision. In doing so, we depart from the relevant literature, which focuses on fully equity-financed investment projects. By letting a representative firm borrow optimally, we show that debt finance not only encourages investment activities but can also substantially mitigate the effect of tax-rate uncertainty on investment timing.