MM Proposition I

Definition

MM Proposition I states that in a perfect market, the value of a firm is unaffected by its capital structure. It implies that the firm's financing decisions do not influence its overall value.

5 Must Know Facts For Your Next Test

1. The proposition was developed by Franco Modigliani and Merton Miller in 1958.
2. It assumes no taxes, bankruptcy costs, or asymmetric information.
3. Market efficiency is a key assumption underlying this proposition.
4. It suggests that the weighted average cost of capital (WACC) remains constant regardless of the debt-equity ratio.
5. The proposition forms the basis for understanding more complex theories of capital structure.

Review Questions

• What are the main assumptions behind MM Proposition I?
• How does MM Proposition I affect a firm's weighted average cost of capital (WACC)?
• Who developed MM Proposition I and when?

Related terms

MM Proposition II: States that a firm's cost of equity increases with its debt-equity ratio.

Capital Structure: The mix of debt and equity financing used by a firm.

Weighted Average Cost of Capital (WACC): The average rate of return required by all of a company's investors.