As per the definition of residual income model, what is the effect on stock price in a given period if the firm's cost of capital is greater than its return on equity?
A)Cannot be determined
B)No effect
C)Stock price increases.
D)Stock price decreases.

Question

Quizplus · Accepted Answer

If the firm's cost of capital is greater than its return on equity, it means that the firm is not generating enough profits to cover the cost of its capital. This leads to a decrease in the residual income, which in turn leads to a decrease in the intrinsic value of the stock. As a result, the stock price decreases.

As Per the Definition of Residual Income Model, What Is