QUESTIONS AND SHORT PROBLEMS

In the problems following, use an equity risk premium of 5.5 percent if none is specified.

1. The value of an investment is:
   1. The present value of the cash flows on the investment.
   2. Determined by investor perceptions about it.
   3. Determined by demand and supply.
   4. Often a subjective estimate, colored by the bias of the analyst.
   5. All of the above.
2. There are many who claim that value is based on investor perceptions, and perceptions alone, and that cash flows and earnings do not matter. This argument is flawed because:
   1. Value is determined by earnings and cash flows, and investor perceptions do not matter.
   2. Perceptions do matter, but they can change. Value must be based on something more substantial.
   3. Investors are irrational. Therefore, their perceptions should not determine value.
   4. Value is determined by investor perceptions, but it is also determined by the underlying earnings and cash flows. Perceptions must be based on reality.