Excerpt from Linear Programming for Financial Planning Under Uncertainty
2. The models yield simultaneous solutions for the firm's optimal financing and investment decisions. The financing decision is not considered "with the investment decision given," nor vice-versa.
3. Some practical difficulties associated with the cost of capital concept are avoided. The traditional weighted average cost of capital does not appear in these LP models.
The first two characteristics should lead to some interest in the mosels as theory; the third, along with the ease of solution of LP problems, should generate interest in the models as practical decision-making tools. However, this paper does not include a detailed model for practical application.
The paper is organized as follows. The general linear format is explained in the next section. The key assumption justifying it is that the structure of security prices at equilibrium is best described by the class of security valuation models which imply risk-independence of financing and investment options. The following section examines a simple model in detail, and contrasts the LP approach with "traditional" approaches using the cost of capital. Practical implications of the model are discussed in the third section.
We will consider the firm's financial planning problem in the following terms.
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