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The Modigliani-Miller Theorems: A Cornerstone of Finance

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The Modigliani-Miller (MM) theorems are a cornerstone of finance for two reasons. The first is substantive and it stems from their nature of “irrelevance propositions”: by providing a crystal-clear benchmark case where capital structure and dividend policy do not affect firm value, by implication these propositions help us understand when these decisions may affect the value of firms, and why. Indeed, the entire subsequent development of corporate finance can be described essentially as exploring the consequences of relaxing the MM assumptions. The second reason for the seminal importance of MM is methodological: by relying on an arbitrage argument, they set a precedent not only within the realm of corporate finance but also (and even more importantly) within that of asset pricing.

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Paper provided by Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy in its series CSEF Working Papers with number 139.

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Date of creation: 01 May 2005
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Publication status: Published in BNL Quarterly Review, 2005, vol. 58, pages 237-47
Handle: RePEc:sef:csefwp:139

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Keywords: Modigliani-Miller theorem; capital structure; leverage; dividend policy;

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  1. Steven N. Kaplan & Per Strömberg, 2000. "Financial Contracting Theory Meets the Real World: An Empirical Analysis of Venture Capital Contracts," CRSP working papers 513, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  2. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-54, May-June.
  3. Miller, Merton H, 1988. "The Modigliani-Miller Propositions after Thirty Years," Journal of Economic Perspectives, American Economic Association, vol. 2(4), pages 99-120, Fall.
  4. Sudipto Bhattacharya, 1979. "Imperfect Information, Dividend Policy, and "The Bird in the Hand" Fallacy," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 259-270, Spring.
  5. Schmidt, Klaus M., 2003. "Convertible Securities and Venture Capital Finance," Munich Reprints in Economics 19769, University of Munich, Department of Economics.
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  7. Schmidt, Klaus M., 1999. "Convertible Securities and Venture Capital Finance," CEPR Discussion Papers 2317, C.E.P.R. Discussion Papers.
  8. Robert Townsend, 1979. "Optimal contracts and competitive markets with costly state verification," Staff Report 45, Federal Reserve Bank of Minneapolis.
  9. Francesca Cornelli & Oved Yosha, 2003. "Stage Financing and the Role of Convertible Securities," Review of Economic Studies, Wiley Blackwell, vol. 70(1), pages 1-32, January.
  10. Hayne E. Leland and David H. Pyle., 1976. "Informational Asymmetries, Financial Structure, and Financial Intermediation," Research Program in Finance Working Papers 41, University of California at Berkeley.
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  12. William Barnett & Robert Solow, 2004. "An Interview With Franco Modigliani," WORKING PAPERS SERIES IN THEORETICAL AND APPLIED ECONOMICS 200407, University of Kansas, Department of Economics, revised Jun 2004.
  13. Francesca Cornelli & Oved Yosha, 2003. "Stage Financing and the Role of Convertible Securities," Review of Economic Studies, Oxford University Press, vol. 70(1), pages 1-32.
  14. Myers, Stewart C. & Majluf, Nicholas S., 1984. "Corporate financing and investment decisions when firms have information that investors do not have," Journal of Financial Economics, Elsevier, vol. 13(2), pages 187-221, June.
  15. Stiglitz, Joseph E, 1974. "On the Irrelevance of Corporate Financial Policy," American Economic Review, American Economic Association, vol. 64(6), pages 851-66, December.
  16. Ross, Stephen A, 1988. "Comment on the Modigliani-Miller Propositions," Journal of Economic Perspectives, American Economic Association, vol. 2(4), pages 127-33, Fall.
  17. Myers, Stewart C. & Majluf, Nicolás S., 1945-, 1984. "Corporate financing and investment decisions when firms have information that investors do not have," Working papers 1523-84., Massachusetts Institute of Technology (MIT), Sloan School of Management.
  18. Gale, Douglas & Hellwig, Martin, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Wiley Blackwell, vol. 52(4), pages 647-63, October.
  19. Modigliani, Franco, 1988. "MM--Past, Present, Future," Journal of Economic Perspectives, American Economic Association, vol. 2(4), pages 149-58, Fall.
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