Suppose we wish to draw a graph illustrating M&M Proposition II. Let the vertical axis represent the cost of capital and the firm's debt-to-equity ratio represents the horizontal axis. If the line representing the firm's WACC has a negative slope, we must be incorporating taxes into the analysis.

Question

Quizplus · Accepted Answer

When taxes are incorporated, the interest tax shield causes the WACC to decrease as the debt-to-equity ratio increases, resulting in a negatively sloped line.

Suppose We Wish to Draw a Graph Illustrating M&M Proposition