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Equity beta

Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA FM Exams › Equity beta

  • This topic has 2 replies, 3 voices, and was last updated 1 month ago by John Moffat.
Viewing 3 posts - 1 through 3 (of 3 total)
  • Author
    Posts
  • November 26, 2020 at 2:27 pm #596561
    Patience
    • Topics: 3
    • Replies: 2
    • ☆

    Sir please I want an explanation of how the answer was arrived at

    Four companies are identical in all respect,except for their capital structures, which are as follows
    A plc B plc C plc D plc
    %. %. %. %.
    Equity as proportion
    Of total market
    capitalization 70. 20. 65. 40
    Debt as a portion
    Of total market
    capitalization 30. 80. 35. 60

    The equity beta of A plc is 0.89 and the equity beta of D plc is 1.22

    Within which ranges will the equity betas of B plc and C plc lie?
    A. The beta of B plc and the beta C plc are both higher than 1.22
    B. A. The beta of B plc is below the beta of C plc in a range 0.89 to 1.22
    C. A. The beta of B plc is above 1.22 and the beta of C plc in the range 0.89 to 1.22
    D. A. The beta of B plc is in the range 0.89 to 1.22 and the beta C plc higher than 1.22

    The answer is C

    November 26, 2020 at 3:22 pm #596573
    abokor
    • Topics: 13
    • Replies: 17
    • ☆

    if i try this question

    we just need to find asset beta by degeering the equity beta of A plc or D plc. since they are identical their Asset beta will be same. so for instance we will use A.plc

    At fist find asset beta= 0.89x(70/100)=0.623

    second regear the asset beta to find B plc equity beta by using the capital structure of B plc = 0.623 x (100/20) =3.115

    same step with C plc. degear asset beta using capital structure of C plc = 0.623 x (100/65) = 0.958.

    then option c will only match the findings.

    November 26, 2020 at 3:30 pm #596581
    John Moffat
    Keymaster
    • Topics: 56
    • Replies: 41542
    • ☆☆☆☆☆

    As I explain in my free lectures, higher gearing creates more risk for shareholders and therefore a higher equity beta.

    B plc has higher gearing than D plc and therefore the equity beta will be higher than D’s equity beta of 1.22.

    C plc has gearing in between that of A and D and therefore the equity beta will be between that of A and D.

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