DEFINITION of 'Irrelevance Proposition Theorem'
A theory of corporate capital structure that posits financial leverage has no effect on the value of a company if income tax and distress costs are not present in the business environment. The irrelevance proposition theorem was developed by Merton Miller and Franco Modigliani, and was a premise to their Nobel Prize winning work, “The Cost of Capital, Corporation Finance, and Theory of Investment.”
INVESTOPEDIA EXPLAINS 'Irrelevance Proposition Theorem'
In developing their theory, Miller and Modigliani first assumed that firms have two primary ways of obtaining funding: equity and debt. While each type of funding has its own benefits and drawbacks, the ultimate outcome is a firm dividing up its cash flows to investors, regardless of the funding source chosen. If all investors have access to the same financial markets, then investors can buy into or sell out of a firm’s cash flows at any point.
Criticisms of the irrelevance proposition theorem focus on the lack of realism in removing the effects of income tax and distress costs from a firm’s capital structure. Because many factors influence a firm’s value, including profits, assets and market opportunities, testing the theorem becomes difficult. For economists, the theory instead outlines the importance of financing decisions more than providing a description of how financing operations work.
Miller and Modigliani used the irrelevance proposition theorem as a starting point in their tradeoff theory.

Search Theory
A study of buyers and sellers who cannot instantly find a commerce ... 
Optimal Capital Structure
The best debttoequity ratio for a firm that maximizes its value. ... 
Optimum Currency Area Theory
A currency thoery based on geographical area that adopts a fixed ... 
Freudian Motivation Theory
A sales theory which surposes that consumers choose whether or ... 
Rational Choice Theory
An economic principle that assumes that individuals always make ... 
Labor Theory Of Value
An economic theory that stipulates that the value of a good or ...

What is the chaos theory?
The chaos theory is a complicated and disputed mathematical theory that seeks to explain the effect of seemingly insignificant ... Read Full Answer >>

Bonds & Fixed Income
Evaluating A Company's Capital Structure
Learn to use the composition of debt and equity to evaluate balance sheet strength. 
Investing Basics
Modern Portfolio Theory vs. Behavioral Finance
Modern portfolio theory and behavioral finance represent differing schools of thought that attempt to explain investor behavior. Perhaps the easiest way to think about their arguments and positions ... 
Investing Basics
The Optimal Use Of Financial Leverage In A Corporate Capital Structure
The amount of debt and equity that makes up a company's capital structure has many risk and return implications. 
Fundamental Analysis
What is Gearing?
Gearing, also called leverage, is the degree to which a company’s operations are funded by lenders versus shareholders. 
Economics
Understanding Perpetuity
Perpetuity means without end. In finance, a perpetuity is a flow of money that will be received on a regular basis without a specified ending date. 
Fundamental Analysis
What is a Null Hypothesis?
In statistics, a null hypothesis is assumed true until proven otherwise. 
Budgeting
4 Signs You're Headed For Financial Trouble
Here are some warnings that you could be in over your head financially – and how to fix the situation before it's too late. 
Stock Analysis
What’s Linn Energy’s New Course For Growth?
Linn Energy has been really reliant on the public markets to fund its growth since the company went public in 2006. 
Investing
What is Debt Financing?
When a company needs to pay for something, it can pay with cash, or it may finance the purchase. Financing means that it gets the money from other businesses or sources, in return for obligations. ... 
Stock Analysis
How Is Main Street Capital Growing?
Dividend investors are always on the lookout for highyielding investments, and one niche in the investment world has paid extraordinary dividends lately.