Alahtab reevaluates the stock following Jatin’s suggestions, but prior to issuing the new price target and recommendation on CRN, Jatin and Alahtab meet with Julia Lederman, the chief investment officer at Cleveland Investment Research, for her approval. After taking a close look at the data and analyses, Lederman makes the following statements:
- I suggest we use a forward-looking beta by making the Blume adjustment to CRN’s raw beta. The adjustment increases the required return on CRN’s stock as well as its intrinsic value.
- It is good to see an adjustment for small-firm risk premium, but the Pastor–Stambaugh model should be used for estimating the required return on CRN’s stock in order to capture the liquidity premium given the stock’s low liquidity.
- I also suggest using a residual income model because, unlike free cash flows, the accounting data used in residual income models may not require significant adjustments.
The meeting concludes with the understanding that Alahtab will redo the analyses per Lederman’s suggestions and bring the results back for her approval.
Q. In regard to Jatin’s three statements concerning valuation models, he is most accurate with respect to statement:
- 3.
- 1.
- 2.
Solution
B is correct. Jatin is correct with respect to Statement 1 only. The H-model is a variant of the two-stage model in which growth begins at a high rate and declines linearly throughout the supernormal growth period until it reaches a normal growth rate at the end. A smoother transition to the mature phase growth rate would be more realistic than the erratic growth rate in dividends displayed by the data.
A is incorrect because with an increase in leverage, FCFE will increase in the year debt is issued, not decrease.
C is incorrect because the FCFE model explicitly recognizes the company’s investment and financing policies as well as its dividend policy.
这题目答案写的好像和题干不太相关，可否分别解释一下三个statement 谢谢！
