Our main results indicate that managers increase leverage in response to events that reduce their entrenchment. However, increased leverage may not always represent a value-increasing strategy and CEOs may over-lever companies beyond the value- maximizing level to protect their job security. We explored this issue by analyzing how leverage changed as a function of a company’s apparent leverage deficit or surplus at the start of the year. We defined surplus as the difference between actual and predicted leverage.
In the absence of unusual shocks to managerial security, companies generally adjust leverage toward its expected level, closing about one-sixth of the surplus or deficit in a given year. We concluded that when businesses have been pursuing a low-debt capital structure, an outside event that threatens managerial security is an especially strong predictor of increased leverage.
This leverage generally takes companies beyond the expected debt/equity ratio for our sample. Interestingly, there was not a converse effect for businesses that had pursued a high-debt capital structure. These companies exhibit no significant change in leverage - and, in particular, do not reduce leverage in the direction of the expected level - in the aftermath of shocks to managerial entrenchment. This asymmetric pattern of leverage changes may suggest that most companies have less leverage than optimal in their capital structures.