b The stocks beta coefficient b i c The risk free rate k RF d The market risk

B the stocks beta coefficient b i c the risk free

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b. The stock’s beta coefficient, b i . c. The risk-free rate, k RF . d. The market risk premium (RP M ). e. All of the above are subject to dispute. Chapter 9 - Page 7
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CAPM and DCF estimation Answer: a Diff: M 25 . Which of the following statements is most correct? a. Beta measures market risk, but if a firm’s stockholders are not well diversified, beta may not accurately measure stand-alone risk. b. If the calculated beta underestimates the firm’s true investment risk, then the CAPM method will overestimate k s . c. The discounted cash flow method of estimating the cost of equity can’t be used unless the growth component, g, is constant during the analysis period. d. An advantage shared by both the DCF and CAPM methods of estimating the cost of equity capital, is that they yield precise estimates and require little or no judgement. e. None of the statements above is correct. WACC Answer: d Diff: M 26 . Which of the following statements is most correct? a. The weighted average cost of capital for a given capital budget level is a weighted average of the marginal cost of each relevant capital component that makes up the firm’s target capital structure. b. The weighted average cost of capital is calculated on a before-tax basis. c. An increase in the risk-free rate is likely to increase the marginal costs of both debt and equity financing. d. Statements a and c are correct. e. All of the statements above are correct. WACC Answer: d Diff: M 27 . Which of the following statements is correct? a. The WACC should include only after-tax component costs. Therefore, the required rates of return (or “market rates”) on debt, preferred, and common equity (k d , k p , and k s ) must be adjusted to an after-tax basis before they are used in the WACC equation. b. The cost of retained earnings is generally higher than the cost of new common stock. c. Preferred stock is riskier to investors than is debt. Therefore, if someone told you that the market rates showed k d > k p for a given company, that person must have made a mistake. d. If a company with a debt ratio of 50 percent were suddenly exempted from all future income taxes, then, all other things held constant, this would cause its WACC to increase. e. None of the statements above is correct. Chapter 9 - Page 8
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WACC Answer: e Diff: M 28 . Which of the following statements is most correct? a. An increase in flotation costs incurred in selling new stock will increase the cost of retained earnings. b. The WACC should include only after-tax component costs. Therefore, the required rates of return (or “market rates”) on debt, preferred, and common equity (k d , k p , and k s ) must be adjusted to an after-tax basis before they are used in the WACC equation. c. An increase in a firm’s corporate tax rate will increase the firm’s cost of debt capital, as long as the yield to maturity on the company’s bonds remains constant or falls.
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