Fisher Separation Theorem

Irving Fisher proposed the famous ‘Fisher Separation Theorem’. The theorem holds that the main goal of the firm is the optimization of the present value of the firm irrespective of the firm owner’s preferences. Hence, according to the Fisher separation theorem, the productive opportunities of the firm are different from the market opportunities of the enterprisers.

The Fisher Separation Theorem says that

  • The investment choices of a firm are different from the owner’s preferences.
  • The decisions on investment are not dependent on the decision of financing.
  • The investment value of a firm is separate from the various methods such as debt, equity or cash that are needed for the financing of a project.

In other words, we may also say that according to this theorem, the value of the business is independent from the strategy of financing the projects and also from the firm’s decision on paying the dividends. Typically, the theorem says that the decisions made by the firm on the investments are independent of the attitude of the entrepreneurs on the investment strategies.

According to Irving Fisher, if the firm makes the decision on investment by choosing the right option between various productive chances, this will take the value of firm to the maximum level while the decision is not affected by the investment preferences done by the owner. The firm then guarantees to attain the optimal position in the market depending on the available market opportunities, while the investments are funded either internally or from the borrowed capital from outside.

The Fisher Separation Theorem can be used in the perfect capital market context. The model of perfect capital market is when associated with the Fisher Separation Theorem; it says that the rational firm owners will insist on the managers to take up the investment strategies that promise to maximize the profit.

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