Final answer:
Key factors in estimating the fair value of stock-based compensation include future earning potential, risk-free interest rate, and executive compensation. Historical market trends don't directly impact this process, and a focus on future profits and appropriate discount rates is critical.
Step-by-step explanation:
When estimating the fair value of a stock-based compensation award, several variables or assumptions are taken into account. The future earning potential of the company, risk-free interest rate, and executive compensation are among the key factors considered. However, historical market trends, while useful for understanding past performance, are not typically a direct variable in this estimation process.
Expectations about the company's future play a crucial role in determining stock price. Analysts and investors continuously analyze and predict the potential for a company to outperform current expectations. This analysis includes evaluating future profits, appropriate discount rates, and potential capital gains and dividends. A higher-than-average interest rate might be used to discount these future payments if the investment is deemed more risky, incorporating a risk premium.