Framework
Capital structure theories
The question it answers
When a CFO needs funding to expand, should the firm borrow more or issue shares, and is there an optimal debt–equity mix for it?
- Origin
- Modigliani and Miller (1958; 1963); Kraus and Litzenberger (1973); Myers (1984); Myers and Majluf (1984); Jensen (1986); Baker and Wurgler (2002)
- Diagram type
- Comparison table
- Level of analysis
- Firm
- Topics
- Corporate finance
Diagram
Capital structure theories
| Criterion | Core claim | Role of debt | Explains best |
|---|---|---|---|
| MM irrelevance | Value is independent of the mix in perfect markets | None | Benchmark only |
| MM with tax | Debt shields tax, pushing toward all-debt | Tax shield | Shows why frictions matter |
| Trade-off | Tax shield versus distress cost | Interior optimum | Stable, profitable firms |
| Pecking order | Internal funds, then debt, then equity | Signal-sensitive | Most firms' behaviour |
| Free cash flow–agency | Debt disciplines managers | Discipline | Leveraged buy-outs |
| Market timing | Leverage reflects past issuance timing | None | Issuance waves |
Sources
References
Listed A–Z by author surname, Harvard style. A source with a DOI links to https://doi.org/…; one without links to its page or says plainly that it has no DOI.
- Baker, M. and Wurgler, J. (2002) ‘Market timing and capital structure’, Journal of Finance, 57(1), pp. 1–32.doi:10.1111/1540-6261.00414Source page
- Jensen, M.C. (1986) ‘Agency costs of free cash flow, corporate finance, and takeovers’, American Economic Review, 76(2), pp. 323–329.No DOISource page
- Kraus, A. and Litzenberger, R.H. (1973) ‘A state-preference model of optimal financial leverage’, Journal of Finance, 28(4), pp. 911–922.doi:10.2307/2978343Source page
- Modigliani, F. and Miller, M.H. (1958) ‘The cost of capital, corporation finance and the theory of investment’, American Economic Review, 48(3), pp. 261–297.No DOISource page
- Modigliani, F. and Miller, M.H. (1963) ‘Corporate income taxes and the cost of capital: a correction’, American Economic Review, 53(3), pp. 433–443.No DOISource page
- Myers, S.C. (1984) ‘The capital structure puzzle’, Journal of Finance, 39(3), pp. 575–592.doi:10.2307/2327916Source page
- Myers, S.C. and Majluf, N.S. (1984) ‘Corporate financing and investment decisions when firms have information that investors do not have’, Journal of Financial Economics, 13(2), pp. 187–221.doi:10.1016/0304-405x(84)90023-0Source page