CA Intermediate · Financial Management and Strategic Management · Dividend Decision
Which one of the following dividend theories holds that, in a perfect capital market with no taxes, the dividend policy of a firm is irrelevant to its market value?
The Modigliani and Miller hypothesis states that in a perfect capital market without taxes, dividend policy does not affect firm value. Value is determined by earning power and investment decisions, so splitting earnings between dividends and retention makes no difference to shareholders' wealth.
- AModigliani and Miller hypothesisCorrect
- BWalter model
- CGordon model
- DTraditional position of Graham and Dodd
Explanation
Modigliani and Miller argue that value depends on earning power and investment policy, not on how earnings are split between dividends and retained earnings. Walter and Gordon models say dividend policy affects value, as does the traditional view that a rupee of dividend is valued more than a rupee of retained earnings.
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