Question

1. You are opening a pop-up store to sell keychains during a week-long street festival. You probably should not use Modigliani-Miller to value this project because the model assumes:

a. All cash flows are perpetuities

b. There is no connection between financing and operating activities

c. Assets are infinitely divisible

d. All investors have the same outlook on the future

Answer 1

ASSUMPTIONS OF MODIGLIANI AND MILLER APPROACH

• There are no taxes.
• Transaction cost for buying and selling securities, as well as the bankruptcy cost, is nil.
• There is a symmetry of information. This means that an investor will have access to the same information that a corporation would and investors will thus behave rationally.
• The cost of borrowing is the same for investors and companies.
• There is no floatation cost, such as an underwriting commission, payment to merchant bankers, advertisement expenses, etc.
• There is no corporate dividend tax.

d. All investors have the same outlook on the future