In pg 4 of Principles of Corporate finance (Allen et al, 2017), in the context of explaining financing decisions are less important that investment decisions, there is a line that says:

"Financial managers say that 'value comes mainly from the asset side of the balance sheet'"

What does this mean? Why asset side? Why not shareholders equity on balance sheet? The text did use an example of Microsoft, where they point out that successful companies finance R&D by reinvesting existing cashflow.


1 Answer 1


This is referring to a general principle in finance. What matters most is the assets you have and the things you invest on, not really the way you finance these investments. In the balance sheet, the asset side has the information about the assets you have, while the liability side has information about how you financed them.

This general principle comes from a very powerful idea called "the efficient markets hypothesis". Miller and Modigliani showed that if the financial market is perfect (basically if it has no private information, transaction costs, taxes, etc), the overall profitability of an investment does not depend on how it is financed!

Of course, markets are not perfect. However, many many studies have documented that most of the time, the financial market is pretty close to being perfect, especially in developed economies like the US. So financing decisions do matter, but investment decisions matter a lot more.


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