Independence Hypothesis Increasing leverage causes the ost of cost of equity to Capital rise. What will be the net effect on the overall cost C of capital? kd kd 0% debt financial leverage 100%debt
Independence Hypothesis Cost of Capital kc kd kc kd Increasing leverage causes the cost of equity to rise. What will be the net effect on the overall cost of capital? 0% debt financial leverage 100%debt
Independence Hypothesis Cost of Capital C 0 kd kd 0% debt financial leverage 100%debt
kc kd Independence Hypothesis Cost of Capital kc ko kd 0% debt financial leverage 100%debt
Independence Hypothesis If we have perfect capital markets capital structure is irrelevant. In other words, changes in capital structure do not affect firm value
• If we have perfect capital markets, capital structure is irrelevant. • In other words, changes in capital structure do not affect firm value. Independence Hypothesis
Dependence hypothesis Increasing leverage does not increase the cost of equity. Since debt is less expensive than equity, more debt financing would provide a lower cost of capital A lower cost of capital would increase firm value
Dependence Hypothesis • Increasing leverage does not increase the cost of equity. • Since debt is less expensive than equity, more debt financing would provide a lower cost of capital. • A lower cost of capital would increase firm value
Dependence hypothesis Since the cost of debt is lower Cost of than the cost of equity. Capital kc kd kd financial leverage
Dependence Hypothesis Cost of Capital kc kd financial leverage kc kd Since the cost of debt is lower than the cost of equity