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Asian Review of Financial Research, Vol., No..
pp.834~838
pp.834~838
The Boundaries of MM2: An Exploration of Equity Value Indeterminacy
Hyoung-Goo Kang Department of Finance, Hanyang University Business School
The Modigliani-Miller Proposition II (MM2) is a cornerstone in the field of corporate finance, positing that in a frictionless environment with perfect capital markets, the cost of equity capital is linearly related to a firm¡¯s leverage. This paper critically re-evaluates this proposition, particularly examining the determination of the cost and value of equity. We find that under specific circumstances, especially when the value of a tax shield is influenced by endogenous variables, the cost and value of equity may be ambiguous. This calls into question the universal applicability of MM2. Our research offers new perspectives on the theoretical underpinnings of financial management and underscores the significance of situational factors in the practical application of these theories.
Hyoung-Goo Kang
The Modigliani-Miller Proposition II (MM2) is a cornerstone in the field of corporate finance, positing that in a frictionless environment with perfect capital markets, the cost of equity capital is linearly related to a firm¡¯s leverage. This paper critically re-evaluates this proposition, particularly examining the determination of the cost and value of equity. We find that under specific circumstances, especially when the value of a tax shield is influenced by endogenous variables, the cost and value of equity may be ambiguous. This calls into question the universal applicability of MM2. Our research offers new perspectives on the theoretical underpinnings of financial management and underscores the significance of situational factors in the practical application of these theories.
Modigliani-Miller Proposition II,Cost of equity capital,Tax shield,Optimal capital structure,Endogenous variables.
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