ABSTRACT
Researchers have criticized Modigliani and Miller (1958) for their assumptions of a tax-free environment and no bankruptcy costs. Introducing the tax benefit of debt and bankruptcy costs, they have claimed the level of debt is determined by optimally trading off the two. This chapter formally characterizes this process using Bradley et al. (1984). This trade-off theory is still prevailing as it is reasonably consistent with empirical findings, though the history tells debt may be used even in the absence of tax benefit of debt.
