Economics • Economic BasicsHard
What is the primary implication of the 'Modigliani-Miller Theorem' in corporate finance assuming no taxes and perfect capital markets?
A. A firm's market value is heavily dependent on its capital structure and debt-to-equity ratio.
B. The market value of a firm is independent of its capital structure.✓ Correct Answer
C. Issuing new equity always increases the overall cost of capital.
D. Retained earnings are always cheaper than issuing new debt.
💡 Solution & Explanation
The Modigliani-Miller theorem states that under perfect capital market assumptions with no taxes or bankruptcy costs, the market value of a firm is independent of its capital structure. Alternative perspectives arguing that high debt increases firm value rely on tax shield benefits, which violate the baseline theorem. Corporate finance principles are occasionally tested in specialized regulatory body examinations.
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