Editing Modigliani–Miller theorem (section)

{{Short description|Economic theory about capital structure}}
The '''Modigliani–Miller theorem''' (of [[Franco Modigliani]], [[Merton Miller]]) is an influential element of [[economic theory]]; it forms the basis for modern thinking on [[capital structure]].<ref>{{Cite journal |title=The Modigliani and Miller Theorem and the Integration of Financial Markets |last=Titman |first=Sheridan |journal=Financial Management |year=2002 |volume=31 |issue=1 |pages=101–115 |doi=10.2307/3666323 |jstor=3666323 }}</ref><ref>{{Cite journal |last=Stiglitz |first=Joseph E. |date=1988 |title=Why Financial Structure Matters |url=https://www.aeaweb.org/articles?id=10.1257/jep.2.4.121 |journal=Journal of Economic Perspectives |language=en |volume=2 |issue=4 |pages=121–126 |doi=10.1257/jep.2.4.121 |issn=0895-3309}}</ref><ref>{{Cite journal |last=Bhattacharya |first=Sudipto |date=1988 |title=Corporate Finance and the Legacy of Miller and Modigliani |url=https://www.aeaweb.org/articles?id=10.1257/jep.2.4.135 |journal=Journal of Economic Perspectives |language=en |volume=2 |issue=4 |pages=135–147 |doi=10.1257/jep.2.4.135 |issn=0895-3309|url-access=subscription }}</ref> The basic theorem states that in the absence of [[tax]]es, [[bankruptcy]] costs, [[agency cost]]s, and [[asymmetric information]], and in an [[Efficient-market hypothesis|efficient market]], the [[enterprise value]] of a firm is unaffected by how that firm is financed.<ref>MIT Sloan Lecture Notes, Finance Theory II, Dirk Jenter, 2003</ref>{{Unreliable source?|date=May 2018}} This is not to be confused with the value of the equity of the firm. Since the value of the firm depends neither on its [[dividend policy]] nor its decision to raise capital by issuing [[share capital|shares]] or selling [[debt]], the Modigliani–Miller theorem is often called the '''capital structure irrelevance principle'''.

The key Modigliani–Miller theorem was developed for a world without taxes. However, if we move to a world where there are taxes, when the interest on debt is [[tax deduction|tax-deductible]], and ignoring other frictions, the value of the company increases in proportion to the amount of debt used.<ref name="Nuno Fernandes">Fernandes, Nuno. Finance for Executives: A Practical Guide for Managers. NPV Publishing, 2014, p. 82.</ref> The additional value equals the total discounted value of future taxes saved by issuing debt instead of equity.

Modigliani was awarded the [[Nobel Prize in Economics#Laureates|1985 Nobel Prize in Economics]] for this and other contributions.

Miller was a professor at the [[University of Chicago]] when he was awarded the 1990 Nobel Prize in Economics, along with [[Harry Markowitz]] and [[William F. Sharpe]], for their "work in the theory of financial economics", with Miller specifically cited for "fundamental contributions to the theory of corporate finance".