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CS Executive · Corporate Accounting and Financial Management · Capital Structure

Which statement best describes the Modigliani-Miller (MM) proposition without taxes, under its perfect market assumptions?

In the MM proposition without taxes, firm value is independent of capital structure. Cheaper debt is exactly offset by a higher cost of equity as leverage rises, so the overall cost of capital and firm value stay unchanged.

  1. AFirm value depends on the debt-equity mix because debt is cheaper
  2. BFirm value is independent of capital structure; cost of equity rises with leverageCorrect
  3. CFirm value falls as leverage rises because of bankruptcy costs
  4. DCost of equity stays constant as leverage rises

Explanation

MM without taxes says value depends on operating earnings and risk, not financing mix. The cheaper debt benefit is offset by a rise in cost of equity, keeping Ko constant. The other options describe NI, trade-off, or incorrect claims.

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