Asked by Chasity Martin on May 02, 2024
Verified
In a perfect world of no taxes,which statement regarding MM propositions is true?
A) According to proposition I, a firm is able to find its optimal capital structure.
B) Proposition II implies that an increase in leverage raises the risk of equity and thereby the required return on equity.
C) According to proposition II, changes in the capital mix of a firm will not affect the debt and equity values of the firm.
D) Proposition I states that the total firm value critically depends on capital structure.
MM Propositions
The Modigliani-Miller propositions, which are foundational theorems in corporate finance, asserting that under certain conditions, the value of a firm is unaffected by its capital structure.
Optimal Capital Structure
The best mix of debt and equity financing that maximizes a company’s market value while minimizing its cost of capital.
Leverage
The use of borrowed funds with the aim to increase the potential return of an investment.
- Master the tenets of the Modigliani-Miller theories and their ramifications across different tax regimes.
Verified Answer
ZK
Zybrea KnightMay 07, 2024
Final Answer :
B
Explanation :
Proposition II of Modigliani and Miller's theory states that in a world with no taxes, the cost of equity increases linearly as leverage increases, reflecting the increased risk taken on by equity holders.
Learning Objectives
- Master the tenets of the Modigliani-Miller theories and their ramifications across different tax regimes.