CA Intermediate · Financial Management and Strategic Management · Financing Decisions - Capital Structure
According to the Modigliani-Miller (MM) hypothesis without taxes, the market value of a firm is determined by:
Under the Modigliani-Miller hypothesis without taxes, firm value depends on the earning power and business risk of its assets. How the firm splits financing between debt and equity does not alter its total market value, so capital structure is irrelevant.
- AIts earning power and the risk of its underlying assets, not by its capital structureCorrect
- BThe proportion of debt in its capital structure
- CThe dividend payout ratio adopted by the firm
- DThe face value of equity shares issued
Explanation
MM without taxes holds that firm value depends on operating earnings and the business risk of its assets. Financing mix (debt versus equity) does not change total value, so the option on debt proportion is wrong under this hypothesis.
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