Publication Date: July 1988
The Modigliani and Miller propositions on the irrelevancy of capital structure and dividends are shown to be valid in a large class of models with asymmetric information. The main assumption is that managerial compensation is chosen optimally. This diﬀers from most recent papers on this topic, which impose by ﬁat a suboptimal contract. Even when imperfections internal to the ﬁrm preclude optimal investment, there is a separation between incentives and ﬁnancing. We also show that making prices reflect idiosyncratic information more accurately does not make investors better oﬀ, thus negating the motivation of many of the signalling models.
Capital structure, Dividends, Asymmetric information, Signalling theory, Investment
JEL Classification Codes: 313, 311, 522
Published in Review of Financial Studies (Spring 1991), 4(1): 201-219 [DOI]