The proposition that the cost of equity is a positive linear function of capital structure is called:
A) The Capital Asset Pricing Model.
B) M&M Proposition I.
C) M&M Proposition II.
D) The Law of One Price.
E) The Efficient Markets Hypothesis.

Question

Quizplus · Accepted Answer

M&M Proposition II, developed by Franco Modigliani and Merton Miller, suggests that under certain assumptions, the cost of equity for a leveraged firm increases linearly as the debt-to-equity ratio increases. This reflects the increased risk taken on by equity holders as more debt is used in the firm's capital structure.

The Proposition That the Cost of Equity Is a Positive