The maximum value of a ﬁrm is at the point where the additional gain from leverage is just offset by
the additional ﬁnancial distress cost.

Question

Quizplus · Accepted Answer

This is known as the optimal capital structure theory, which suggests that a firm should leverage up to a point where the marginal benefits of debt are equal to the marginal costs of financial distress. Beyond this point, the costs of financial distress would outweigh any further benefits of leverage, resulting in a decrease in firm value.

The Maximum Value of a ﬁRm Is at the Point