5. Tobin\'s q Aa Aa Suppose that the value of capital as determined by the stock

Question

5. Tobin's q Aa Aa Suppose that the value of capital as determined by the stock market is $5.0 million, whereas the cost of capital if it was purchased today is $4.0 million. The value of Tobin's q is than 1, the stock market values capital at than its replacement cost. In Because Tobin's q is this case, any managers basing their decision on Tobin's q replace capital as it wears out will not will Suppose that Congress legislates an increase in the corporate income tax beginning next year. This will Tobin's q and therefore investment today. Which of the following items affect Tobin's q? Check all that apply. Future economic policies The current economic marketplace current economic policies

Explanation / Answer

Tobin q= Market value of capital/Replacement cost

=5/4=$1.25

The value of Tobin q is $1.25

Here as Tobinq value is greater than 1 so firm's stock is more expensive than the replacement cost of its asset. That is stock is overvalued.

Because Tobin q is greater than 1, the stock market values capital at higher than its replacement cost. In this case, any manager basing their decision on Tobinq will not replace capital as it wears out.

By imposing corporate income tax reduces the market value of capital, therefore the value of Tobin q is reduced. So investment will be reduced as firms find it less profitable to invest more capital because the value of capital decreases and cost of acquiring it increases.

Firms examine future interest rate and the present value of expected profits. The first option is correct.

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