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MM Prop I

If the assets are tangible and the market can supply meaningful valuations then you could say that the value of the firm is the assets-in a perfect world. Another approach is to look at the discounted cash flow that the firm generates. Further, if we look at the value of a firm's stock assuming that the market can fairly value the stock (sort of rules out privately held firms) we can see that the price of stock in a highly leveraged firm is less than that of a similar firm with less leverage. The risk of high leverage is captured in a lower price of the stock (return = (CG + Div)/Price) because investors demand a higher return for the higher risk.

What are some of the consequences of high leverage?

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High leverage can have several consequences to a firm.
1. As stated in the note, high leverage causes the cost of equity to rise. This is because investors perceive the company as risky. With high leverage, the creditors would be the first ...

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