Which of the Following Statements Is CORRECT

question 11

Multiple Choice

Which of the following statements is CORRECT?

• A) The discounted cash flow method of estimating the cost of equity cannot be used unless the growth rate, g, is expected to be constant forever.
• B) If the calculated beta underestimates the firm's true investment risk--i.e., if the forward-looking beta that investors think exists exceeds the historical beta--then the CAPM method based on the historical beta will produce an estimate of rs and thus WACC that is too high.
• C) Beta measures market risk, which is, theoretically, the most relevant risk measure for a publicly-owned firm that seeks to maximize its intrinsic value. This is true even if not all of the firm's stockholders are well diversified.
• D) An advantage shared by both the DCF and CAPM methods when they are used to estimate the cost of equity is that they are both "objective" as opposed to "subjective," hence little or no judgment is required.
• E) The specific risk premium used in the CAPM is the same as the risk premium used in the bond-yield-plus-risk-premium approach.

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Definitions:

Contributed Capital

Funds that investors provide to a company in exchange for equity, including the value of stock plus any additional paid-in capital.

Stock Option Plan

A compensation scheme in which employees are given the option to purchase company stock at a discounted price, intended to align their interests with those of the company's shareholders.

Employee Turnover

The rate at which employees leave a company and are replaced by new employees, indicating the stability and retention capacity of a workplace.

Measurement Date

The specific point in time at which the value of an asset or liability is determined for accounting purposes.