Asset Substitution Problem

AAA

DEFINITION of 'Asset Substitution Problem'

A problem that arises when a company exchanges its low-risk assets for high-risk investments. This substitution transfers value from a firm's bondholders to its shareholders.

INVESTOPEDIA EXPLAINS 'Asset Substitution Problem'

The transfer of assets places more risk on the debt holders without providing them with additional compensation. High-risk projects can yield higher profits, however more risk is incurred by the firm. The added profit may only benefit the shareholders, as the bondholders require only a fixed return. The increase level of risk does affect the bondholders, since the company increases its chance of defaulting on its debt.

RELATED TERMS
  1. Substitution Effect

    The idea that as prices rise (or incomes decrease) consumers ...
  2. Agency Costs

    A type of internal cost that arises from, or must be paid to, ...
  3. Agency Problem

    A conflict of interest inherent in any relationship where one ...
  4. Agency Theory

    A supposition that explains the relationship between principals ...
  5. Corporate Governance

    The system of rules, practices and processes by which a company ...
  6. Default

    1. The failure to promptly pay interest or principal when due. ...
Related Articles
  1. The Basics Of Corporate Structure
    Investing Basics

    The Basics Of Corporate Structure

  2. What Are Corporate Actions?
    Bonds & Fixed Income

    What Are Corporate Actions?

  3. Governance Pays
    Options & Futures

    Governance Pays

  4. Who is responsible for protecting and ...
    Investing

    Who is responsible for protecting and ...

comments powered by Disqus
Hot Definitions
  1. Debit Spread

    Two options with different market prices that an investor trades on the same underlying security. The higher priced option ...
  2. Odious Debt

    Money borrowed by one country from another country and then misappropriated by national rulers. A nation's debt becomes odious ...
  3. Takeover

    A corporate action where an acquiring company makes a bid for an acquiree. If the target company is publicly traded, the ...
  4. Harvest Strategy

    A strategy in which investment in a particular line of business is reduced or eliminated because the revenue brought in by ...
  5. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  6. Pareto Principle

    A principle, named after economist Vilfredo Pareto, that specifies an unequal relationship between inputs and outputs. The ...
Trading Center