Impact of Capital Structure on Firm Value

Very Hard Capital Structure Decisions Modigliani-miller Propositions

Consider a firm that operates in a perfect market and is currently financed entirely with equity. The firm is contemplating the introduction of debt into its capital structure to leverage its operations.

According to the Modigliani-Miller Propositions under the no-tax scenario, which of the following statements correctly reflects the impact of capital structure on the firm's overall value?

The firm's overall value will increase as it takes on more debt due to the tax shield provided by the interest payments.

The introduction of debt will not affect the total value of the firm, as the benefits of debt are offset by the increased cost of equity.

The value of the firm will decrease if it introduces debt, due to the perceived risk increase by equity holders.

Hint

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