All other things being equal, the Modigliani and Miller Model, modified for tax and bankruptcy costs concludes that:
A)no matter what level of debt a company is operating at, increasing the percent of debt in the capital structure will increase the stock price. b. if a company has a very low percent debt, increasing the percent of debt in the capital structure will increase the stock price.
B)and c. are correct.
C)at moderate levels of debt, it is difficult to tell what will happen to the stock price (whether it will go up or down)if the percent debt in the capital structure is increased.
D)there is no relationship between the percent of debt in the capital structure and the stock price.
E)b. and c. are correct.

Question

Quizplus · Accepted Answer

The Modigliani and Miller Model, when modified for taxes and bankruptcy costs, suggests that initially, adding debt can increase the value of a firm (due to the tax shield on interest payments), but beyond a certain point, the costs of financial distress and bankruptcy outweigh the benefits, making the relationship between debt levels and stock price non-linear. Thus, statements b and c correctly reflect this nuanced view.

All Other Things Being Equal, the Modigliani and Miller Model