I need some assistance with the following questions. Any clarificaitons you can provide are greatly appreciated.
Help with some questions
1. What happens to a firm that fails to earn at least its cost of capital on the investments it makes?
The cost of capital is the rate that must be earned to satisfy the required rate of return of the firm's investors. So, if the cost of capital is not earned, the required rate of return of the firm's investors is nor earned. In other words shareholder wealth gets reduced. The cost of capital is also the opportunity cost of an investment, this is the rate of return a company would have been able to earn at the time risk level as the investment that has been selected.
There are several actions that may take place when a firm fails to earn its cost of capital on investments. The investors will sell the shares and the market value of the stocks may fall. The investors may also attempt to change the management.
2. Under what ...
This explanation provides you a comprehensive argument relating to cost of capital on the investments