Use the following information to answer the question(s)below.
Luther Industries has 25 million shares outstanding trading at $18 per share.In addition,Luther has $150 million in outstanding debt.Suppose Luther's equity cost of capital is 13%,its debt cost of capital is 7%,and the corporate tax rate is 40%.
-Which of the following statements is FALSE?
A)There may be reasons to exclude certain historical data as anomalous when estimating beta.
B)Many practitioners use adjusted betas,which are calculated by averaging the estimated beta with 1.0.
C)The beta estimated from linear regression can be very sensitive to outliers,which are returns of unusually small magnitude.
D)If we use very old data to when estimating beta,they data may be unrepresentative of the current market risk of the security.

Question

Quizplus · Accepted Answer

Explanation: The statement in option C is false because outliers in the context of beta estimation are typically returns of unusually large magnitude, not small. Outliers can significantly affect the beta estimation because they can skew the regression analysis, making the beta sensitive to these extreme values. The correct understanding is that outliers are extreme values that deviate significantly from the rest of the data, which can be either very high or very low, but the concern is usually with large magnitude swings that can distort the analysis.

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