Which of the following are the two component parts of a firm's cost of equity as illustrated by M&M Proposition II?
A) Financial risk and interest rate risk.
B) Inflation risk and interest rate risk.
C) Tax risk and interest rate risk.
D) Business risk and market risk.
E) Business risk and financial risk.

Question

Quizplus · Accepted Answer

M&M Proposition II states that a firm's cost of equity is a linear function of its capital structure. The two component parts of a firm's cost of equity, according to this proposition, are business risk and financial risk. Business risk is inherent to the operations of the firm and is independent of how it finances its operations, while financial risk arises from the firm's financing decisions, particularly its use of debt.

Which of the Following Are the Two Component Parts of a Firm's