Leverage Ratios, Industry Norms, and Stock Price Reaction: An Empirical Investigation of Stock-for-Debt Transactions

n Robert M. Hull is an Associate Professor of Finance at Washburn University. In this paper, I extend the stock-for-debt research by investigating whether stock value is influenced by how a firm changes its leverage ratio in relationship to its industry leverage ratio norm. I find that announcement-period stock returns for firms moving “away from” industry debt-to-equity norms are significantly more negative than returns for firms moving “closer to” these norms. This finding is consistent with optimal capital structure theory if industry debt-toequity norms are reasonable approximations of wealth-maximizing leverage ratios.