Chat with AIExam 11: Risk-Adjusted Expected Rates of Return and the Dividends Valuation Approach
The dividends valuation approach measures value-relevant dividends to encompass various transactions between the firm and the common shareholders.What transactions should the analyst include in value-relevant dividends for purposes of implementing the dividends valuation model? Why?
(31) 
VerifiedThe chapter emphasizes an "all-inclusive" measurement approach to "value-relevant" dividends.For dividends-based valuation,the analyst should measure all net cash flows between the firm and the common shareholders.The measurement of value-relevant dividends should encompass periodic dividends (such as quarterly or annual dividends under the firm's dividend payout policy)plus capital returned to equity shareholders through stock repurchases less capital raised from equity shareholders through stock issues.
In what case will using dividends expected to be paid to shareholders yield the same valuation for the firm as using free cash flows expected to be generated by the firm?
(34) VerifiedThey will yield the same valuation as in the case when the firm generates a rate of return on reinvested free cash flow equal to the discount rate used by the investor (the equity cost of capital).
Identify the types of firm-specific factors that increase a firm's nondiversifiable risk (systematic risk).Identify the types of firm-specific factors that increase a firm's diversifiable
risk (idiosyncratic risk or nonsystematic risk).Why do models of risk-adjusted expected
returns include no expected return premia for diversifiable risk?
(46) VerifiedFirm-specific factors that increase the firm's nondiversifiable risk (systematic risk)include the firm's exposure to economy-wide risk factors such as interest rate changes,inflation,foreign exchange rate changes,and cyclicality.Firm-specific exposure to such risk factors is determined by factors such as the firm's leverage,extent of fixed versus variable interest rate debt and investments,and the extent of exposure to foreign exchange rate fluctuations.The types of firm-specific factors that increase the firm's diversifiable risk (idiosyncratic risk or nonsystematic risk)include the firm's exposure to competition,technological change,labor problems,management competence,and operating control.Models of risk-adjusted expected returns include no expected return premia for diversifiable risk because,in theory,a risk-averse investor can avoid the positive and negative consequences of these types of risks on his or her portfolio through portfolio diversification.
The historical discount rate of the firm may be a good indicator of the appropriate discount rate to apply to the firm in the future,when all of the following conditions hold true except:
(40) The following data pertain to Loren Corporation (dollar amounts in thousands):
Using this information,calculate the following: a.Loren Corporation's cost of equity capital
b.The weight on debt capital that should be used to calculate Loren's weighted-average cost of capital.
c.Loren Corporation's weighted-average cost of capital
Using this information,calculate the following: a.Loren Corporation's cost of equity capital
b.The weight on debt capital that should be used to calculate Loren's weighted-average cost of capital.
c.Loren Corporation's weighted-average cost of capital (40) Firm-specific factors that increase the firm's nondiversifiable risk include all of the following except:
(45) Normally,valuation methods are designed to produce reliable estimates of the value of a firm's ______________________________.
(36) If a firm has a market beta of 0.9,is subject to an income tax rate of 35 percent,has a risk-free rate of 6 percent,a market risk premium of 7 percent,and has a market value of debt to market value of equity ratio of 60 percent,what does the market expect the firm to generate in terms of equity returns using CAPM?
(44) Zonk Corp.
The following data pertains to Zonk Corp., a manufacturer of ball bearings (dollar amounts in millions):
Tetal a55ets \ 7460 Interest-bearing debt \ 3652 Average pre-tax borrowing cost 10.5\% Common equity: Boak value \ 2950 Market value \ 13685 Incame tax rate 35\% Market equity beta 1.13
-Assuming that riskless rate is 4.6% and the market premium is 7.3% calculate Zonk's cost of equity capital:
(31) Under the assumption of clean surplus accounting,how would you compute total dividends paid to common equityholders in order to value the firm?
(40) Explain the theory behind the dividends valuation approach.Why are dividends value-relevant to common equity shareholders?
(33) Equity valuation models based on dividends,cash flows,and earnings have been the topic of many theoretical and empirical research studies in recent years.All of the following are true regarding these studies except:
(38) Suppose a firm has a market beta of 1.24 and the risk free interest rate is 6.25.In addition,the excess return over the risk-free rate is 6.3%.Calculate the firm's cost of equity capital using the CAPM model.
(42) According to the text,dividends are value-relevant even though the firm's dividend policy is irrelevant.How can that be true? What is the key assumption in the theory of dividend policy irrelevance?
(38) Why do investors typically accept a lower risk-adjusted rate of return on debt capital than equity capital? Suppose a stable,financially healthy,profitable,tax-paying firm that has been
financed with all equity and no debt decides to add a reasonable amount of debt to its capital
structure.What effect will that change in capital structure likely have on the firm's
weighted average cost of capital?
(42) If dividend projections include the effect of inflation,then the discount rate used should be a ____________________ rate.
(38) Provide the rationale for using expected dividends in a valuation model.
(38) Conceptually,why should an analyst expect the dividends valuation approach to yield equivalent value estimates to the valuation approach that is based on free cash flows available to be distributed to common equity shareholders?
(42) Which of the following is not a problem with using a dividend-based valuation formula
(36) 
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