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January 6, 2021 at 6:33 am
Thank you the videos. They are highly appreciated. My questions are:
1) If the 1.8 Beta of the Shipping building company has been ungeared giving 1.565 as Beta asset, why do we solve for the 50% cost of equity in question (b) by calculating “Equity / Equity + Debt” again when it already shows that the 1.565 Beta is totally equity with no debt?
2) Why shouldn’t the cost of equity in question (b) be calculated as 50% of 1.565 = 0.7825 multiplied by market risk premium of 10% i.e. (18% – 8%) plus the risk free rate of 8% equal to 15.825%?
John Moffat says
January 6, 2021 at 7:28 am
1. In part (b) there is debt and therefore the risk of the equity will be higher and therefore the beta of equity will be higher. The higher the gearing the great the equity beta and therefore the greater the cost of equity.
2. The same applies as in (1)
November 27, 2020 at 3:28 pm
sir why do we not add beta asset of the parent company also to the beta asset of the to-be-bought company (when regearing) to get the overall equity beta of the combined entity?
November 27, 2020 at 4:56 pm
We take the weighted average of the betas because the overall risk will be somewhere between the two.
Also, taking the weighted average of the asset betas will certainly not give the equity beta of the combined entity – it will give the asset beta.
July 22, 2020 at 8:51 am
Thanks for the videos! I really appreciate your work here! One question regarding the asset beta formula: why is the market value of debt in the denominator multiplied by (1-T)? This was not the case in the WACC formula, which is why I am confused. Thanks in advance for a reply!
May 14, 2020 at 8:49 am
I have one doubt regarding the use of WACC as a discount rate.
As per previous lectures you said that WACC used as a discount rate for new project only when we have same gearing ratio so here gearing ratio changed then why you use this as a discount rate .
March 1, 2020 at 9:31 am
As to example 6 part b, I have no problems in getting BE 2.74 and BA1.565, but why cannot i use the WACC to get the average B of 2.15 and use this beta in CAPM formula to get required rate of 8+2.15(18-8)=29.5%?
December 30, 2019 at 7:53 pm
Example 6- Part B Dear sir, when we Regearing from asset beta to Equity beta, we do that to add our own financial risk to the proxy business risk. So why we calculate the risk of debt through WACC again?
December 31, 2019 at 8:51 am
The WACC isn’t calculating the risk of anything. It is calculating the overall cost to the company of their long-term finance.
October 8, 2019 at 5:01 am
Dear Sir, In question (a), required return calculated with asset beta whereas cost of equity calculated with equity beta in question (b). Please help me out of the confusion. Thank you very much.
October 8, 2019 at 5:02 am
Example 6, please.
October 8, 2019 at 7:13 am
The asset beta measure the risk of the business itself (and this is part b).
However shares in the business are more risky because the gearing increases the risk of the shares. The risk of the shares is measured by the equity beta (which is part (a)).
September 11, 2019 at 11:54 pm
In Examples: To calculate the Cost of Debt 8% x 0.75 is taken. This 0.75 is (1-T). The 6% answer is After-Tax Cost of Debt?
September 12, 2019 at 6:52 am
August 27, 2019 at 8:16 am
In example 6,
Assuming the entire project was going to be funded by Debt finance instead of equity, how would the cost of appraising the project be determined?
a) Will it be using just CAPM , where the best we use is equal to the asset beta of the ship building company (Exactly how we do it in case the project is funded through equity , could you also tell me what is the logic in doing this if we are doing this) , or
b) Will it be based on WACC. (Again, it would be really helpful if you could show an example of how this might be calculated)
February 3, 2019 at 6:59 pm
In Example 5 P plc: Debt to Equity ratio of 0.4 Its mean 40% is Debt and 60% is Equity = 100% But you solve with 100% as Equity and 40% as Debt = 140% how value of compnay above 100% Same in Q plc
February 4, 2019 at 7:40 am
Nobody is talking about %’s !!!!
It does not mean 40% is debt and 60% is equity – that would mean a debt to equity ratio os 40/60 which is certainly not 0.4!!
If debt to equity is 0.4, then for every $100 equity the debt is 0.4 x 100 = $40. Therefore for every $140 total value, the equity is $100 and the debt is $40.
January 16, 2019 at 10:40 am
In example 6, when calculating the beta of equity, why did you take 87.5/50 rather than 50/87.5 seeing has the formula had not changed sides?
January 16, 2019 at 3:29 pm
But the formula has ‘changed sides’.
We have calculated the asset beta and are using the formula to calculate the equity beta, which means reversing the formula.
December 1, 2018 at 11:26 am
Hi John In the final calculation of WACC shouldn’t we take the tax effect of debt?
September 10, 2018 at 7:38 pm
Sir,thank you so much for the wonderful lectures.I would like to know if the 0.2 debt to equity in example 6 can be assumed to be 20% debt and 80% equity to make a total of 100 instead of the 100 equity and 20 debt that you used?A bit confused here sir.Thank you.
September 11, 2018 at 8:34 am
No it can’t be assumed to be 20% debt and 80% equity.
If the ratio of debt to equity is given as 0.2, then it means that debt divided by equity is 0.2. If it were 20% debt and 80% equity, then the ration of debt to equity would be 20/80 which is 0.25 !!
September 11, 2018 at 11:59 pm
Thank you sir,I do get the logic now.
September 12, 2018 at 9:22 am
You are welcome 🙂
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