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According to Modigliani and Miller (1963 which allows for the presence of the corporate taxes), which...

According to Modigliani and Miller (1963 which allows for the presence of the corporate taxes), which of the following is/are true?

a. an increase in the corporate tax rate will increase the value of the debt tax shield, ceteris paribus (holding all else constant)

b. firms will maximize value as the D/TA ratio approaches 100%

c. WACC continues to decrease as we use more and more debt

d. only a & b are correct

e. a, b, and c are correct

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Answer #1

Answer: e. a,b, and c are correct

=> All followings are correct because increase in tax reduces the interest cost incidence, the firm will able to maximise its value and also the WACC will keeps reducing as we put more and more debt as Return on Capital is more than Cost of Debt.

a. an increase in the corporate tax rate will increase the value of the debt tax shield, ceteris paribus (holding all else constant)

b. firms will maximize value as the D/TA ratio approaches 100%

c. WACC continues to decrease as we use more and more debt

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