In other words, in a hypothetical world - that does not exist - capital structure isn’t important.
In fact, taking the theory to its ultimate conclusion you might think that taking on as much debt as possible should lead to maximum profitability and shareholder value.
Plus, if too much debt is taken on by a company, a country or an individual, it invariably begins to cost more to compensate for the risk.
They undertake mergers and acquisitions which notionally add profit to the bottom line but achieve few synergies or real benefits. This is sometimes known as “buying profit”.
Therefore a rational management calculates an estimated Net Present Value (NPV) for a project and should aim to increase not only Earnings Per Share (EPS) but also its Return on Equity (ROE) and Return on Capital Employed (ROCE).
You need to seek out companies with managements which have goals that are congruent with adding shareholder value.
If a company cannot re-invest its capital to add shareholder value, rationally it should return funds to shareholders through the payment of dividends.
The cost is risk.
It was common for promoters of UK “property clubs” to talk of “being 'worth' 2 million” in property up until around 2007.
But since the were often promoting investing in far-flung towns and remote locations using 100% mortgages, the only thing they are likely to be worth today is being lynched by angry investors who were duped into doing the same.
Of course I could be more aggressive in order to leverage up and chase greater returns…but don’t forget that I am, after all, an accountant. After years of boring-but-safe and risk-averse investment I will remain disinclined to take on greater risk.
However, investors should also avoid properties which generate a large negative cash-flow.
It’s amazing, isn’t it? Where did they all go?
Some were acquired or merged with each other. Others become insolvent or went into liquidation.
Average investors tend to think that they are great at picking individual companies to invest in. Generally they aren’t and it is wise diversify.
A good way to do this might be through buying into a low-cost Listed Investment Company (LIC) or an index fund.
Without going over too much old ground here, Keating removed the iniquitous double taxation on dividends (thus there are now franking credits on certain qualifying dividends) but introduced a capital gains tax.
The so-termed "negative gearing" rules were also quarantined then fairly quickly re-introduced.