Shareholder value could suffer by following “rules of thumb” instead of textbook theory. The debate about how best to practice corporate finance can be likened to the one about whether life exists in outer space: lots of theories but little agreement. Recently, in an effort to learn more about the daily practices of CFOs, John Graham and Campbell Harvey of Duke University's Fuqua School of Business compiled responses from 392 CFOs in a working paper titled “The Theory and Practice of Corporate Finance: Evidence From the Field”. Their research focused on capital budgeting, cost of capital and capital structure.Graham and Harvey found that although the financial theories and tools of academia are slowly being adopted into the field, CFOs are reluctant to forsake their favorite “yardsticks” in favor of textbook approaches to solving problems.Nowhere was this more apparent than in regard to capital structure. For example, financial theory, starting with the Nobel Prize–winning Franco Modigliani and Merton Miller papers in the 1950s, asserts that companies choose their capital structure on the basis of a trade-off between the benefits of debt (the tax deductibility of interest payments) and the drawbacks of debt (higher interest payments).
