Which of the following is the best definition of static theory of capital structure?
A) The costs that are directly associated with bankruptcy, such as legal and administrative expenses.
B) The cost of capital of a firm that has no debt.
C) Theory that a firm borrows up to the point where the tax benefit from an extra dollar in debt is exactly equal to the cost that comes from the increased probability of financial distress.
D) The equity risk that comes from the nature of the firm's operating activities.
E) The tax saving attained by a firm from interest expense.

Question

Quizplus · Accepted Answer

The static theory of capital structure suggests that there is an optimal debt-to-equity ratio where the firm's value is maximized. This occurs when the marginal tax benefit of borrowing (interest tax shields) is exactly offset by the marginal cost of financial distress.

Which of the Following Is the Best Definition of Static