Traditional and MM Approaches to Capital Structure.

Traditional and MM Approaches to Capital Structure.

1. Traditional and MM Approaches to C apital Structure. Presenter: Priyanka H.B. 1 st M. Com. Under the guidance of Sundar B. N. Asst. Prof. & Course Co-ordinator GFGCW, PG Studies in Commerce Holenarasipura

2. Introduction: ASSUMPTION Capital structure is the major part of the firm financial decision which affects the value of the firm and it deals to change EBIT and Mkt value of the shares. Relationship among the capital structure cost of capital and value of the firm. The aim is minimize the value of the firm and to reduce the cost of capital.

3. Capital structure theories

4. Traditional approach (Intermediate approach): ASSUMPTION According to traditional approach mix of debt and equity , capital can increase the value of the firm by reducing overall cost of capital up to certain level of debt. It is states that the ko decrease only within the resp onsible limit of financial leverage and when reaching the minimum level it starts increasing with financial leverage .

5. Assumptions: ASSUMPTION The firm pays 100% of its earning as dividend. The total finance remains constant. The operating profit (EBIT) are not expected to grow. The Business risk remains constant. The investors behave rationally . Only two sources of funds used by a firm I.e., debt and equity.

6. Traditional approach:

7. Modigliani Miller (MM)approach: ASSUMPTION It is argued that, in the absence of taxes the cost of capital and the value of the firm are not affected by the changes in capital structure. Capital structure decisions are irrelevant and value of the firm is independent of debt and equity mix.

8. Assumptions: ASSUMPTION 1.There is a perfect capital market. When, When investors are free to buy and sell securities. T hey can borrow funds without restrictions at the same terms as the firm’s do. They behave rationally. They are well informed. No transaction costs.

9. ASSUMPTION 2 .Firm’s can be classified homogeneous risk classes. 3.All investors have the same expectations of a firm NOI(EBIT). 4.The dividend payout ratio is 100%. 5.There are no corporate taxes. This assumptions are removed later.

10. Conclusion: ASSUMPTION In the above both theories are have a own assumptions to determine the aim of the capital structure of the firm’s. I.e., reduce the cost and increase the value of the firm.

11. Bibliography: ASSUMPTION Traditional theory approach Retrived from –https//:efinancemangement.com 21/4/21. Modigliani Miller approach:Retrieved from-https//:www.researchgate.net 21/4/21.

12. Thank you