If firms select the proportion of debt in their capital structures in order to balance the benefits of tax-deducible interest payments with opportunity costs, this would support the notion of:
A)the static trade-off hypothesis
B)pecking order theory
C)efficient markets hypothesis
D)none of the above

Question

Quizplus · Accepted Answer

The static trade-off hypothesis suggests that firms choose their capital structure by balancing the benefits of tax-deductible interest payments with the costs of financial distress and agency costs. Therefore, the idea that firms select the proportion of debt in their capital structures to balance these costs and benefits supports the static trade-off hypothesis. Pecking order theory, on the other hand, suggests that firms prefer internal financing first and debt as a last resort, and the efficient markets hypothesis pertains to the idea that financial markets are efficient and reflect all available information in asset prices.

If Firms Select the Proportion of Debt in Their Capital