A Re-examination of the MM Capital Structure Irrelevance Theorem: A Partial Payout Approach

International Journal of Business and Management, 2011

12 Pages Posted: 3 Mar 2020

Date Written: October 1, 2011

Abstract

Contrary to Modigliani and Miller (1958, MM hereafter), Capital Structure is not irrelevant when we consider a firm with a dividend payout policy. This article extends the MM capital structure theorem by relaxing the full payout assumption and introducing retention policy. The theoretical contribution shows that it is possible to verify the theorem when we suppose an investor who exchanges his initial holding for another portfolio composed of consumption and investment. The empirical analysis of this new approach is based on a data set of the USA Electric Utilities and Oil companies for the period 1990-1998. The results show that the relationships between leverage and firm value are significantly affected by the firm’s payout ratio. This finding is largely inconsistent with MM’s view that the division of a stream between cash dividend and retained earnings is a mere detail in dealing with the irrelevance of capital structure.

Keywords: Capital structure, Firm value, Irrelevance theorem, Arbitrage, Payout policy

JEL Classification: G32

Suggested Citation

Kouki, Mondher, A Re-examination of the MM Capital Structure Irrelevance Theorem: A Partial Payout Approach (October 1, 2011). International Journal of Business and Management, 2011, Available at SSRN: https://ssrn.com/abstract=3529585

Mondher Kouki (Contact Author)

FSEGT ( email )

Tunisia
0021698543763 (Phone)

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