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On Valuation, Beta, and the Cost of Equity Capital: A Note

Published online by Cambridge University Press:  06 April 2009

Joe Yagill
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Extract

The issue of capital structure has been intensively examined in the finance literature, particularly after the appearance of the landmark 1958 paper by Modigliani and Miller [8], hereafter MM. In that paper, MM derived a relationship in terms of the expected return on equity of a levered and unlevered firm, known as MM Proposition II. Their analysis was extended later by researchers such as Hamada [5] and Rubinstein [9] who derived the corresponding relationship in terms of the systematic risk (beta). Both these risk-return relationships have been derived for the case of perfect capital markets and the case in which corporate income taxes are the only type of market imperfection. Although effects of other types of market imperfections such as personal income taxes and bankruptcy costs have been examined in numerous studies, neither MM Proposition II nor the “beta” relationship were extended to include the effects of personal income taxes and bankruptcy costs.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 17 , Issue 3 , September 1982 , pp. 441 - 449
Copyright
Copyright © School of Business Administration, University of Washington 1982

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References

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