Which of the following statements is/are correct concerning the estimation of th

Question

Which of the following statements is/are correct concerning the estimation of the cost of equity capital? Other factors being equal a. it is more appropriate to use the industry's beta in the estimation if the fim's operation is similar to those of its peer firms in the industry b. the cost of equity capital increases with the firm's use of fixed costs in its production. c. the cost of equity capital decreases with the finm's use of debt financing. d. All of the above statements are correct. e. Only a and b are correct.

Explanation / Answer

Option e. Only a and b are correct

Option a is correct beacusebenchmark beta is very good to use in capital asset model pricing to calculate cost of equity of firm because it is effeted by the same issues as the benchmark industry.CAPm model = Risk free rate + beta * ( market risk - Risk free rate)

Option b is true beacuse if fiexed costs are high then the company may suffer during downturn and will yield less returns as gross and net incoem will decrease due to fixed cost.

Option c) is false because cost of equity increaes with increase in debt as the risk of the company increases as debt financing increases. So cost of equity goes up.


Best of Luck. God Bless

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