In the presence of taxes,firms are often less leveraged than they should be,given the potentially large tax benefits associated with debt.Firms can increase market value by increasing leverage to the point at which the additional contribution of the tax shield to the firm's market value begins to decline.

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Quizplus · Accepted Answer

This statement is true. Taxes provide a benefit to firms that use debt financing, as interest payments on debt are tax-deductible. However, if a firm becomes too highly leveraged, the additional financial risk and potential for default may outweigh the tax benefits, causing the market value to decline. Therefore, firms should aim to find the optimal level of leverage that maximizes the value of the tax shield.

In the Presence of Taxes,firms Are Often Less Leveraged Than