Investinginriskierinvestmentsmayearnahigherreturnfor
thefirm,butitdoesnotmakethefirmmorevaluable.Infact,
usingthesamereasoningthatweusedtoanalyzenear-cash
investments, we can conclude that investing in riskier
investments andearninga fairmarketreturn(which would
reward the risk) is value neutral.
To Invest in Undervalued Securities
Agoodinvestmentisonethatearnsareturngreaterthanits
requiredreturn(givenitsrisk).Thatprinciple,developedin
thecontextofinvestmentsinprojectsandassets,appliesjust
asstrongly to financialinvestments. Afirmthatinvests in
undervalued stocks is accepting positive net present value
investments, since thereturn it willmake on these equity
investments will exceed the cost of equity on these
investments. Similarly, a firm that invests in underpriced
corporatebondswillalsoearnexcessreturnsandpositivenet
present values.