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The answer to the part (b) states:
“In estimating the asset beta of Doreen Co do offering hotel services only there has been no consideration of the change in business risk as a result of renting rather than owing the hotels”So, just weighting the asset betas based on revenue shares is not enough to reflect the change of business risk? Just an approximate estimation.
Therefore, I can add similiar comment for such estimation of asset beta to gain a mark?Thank you in advance.
It is not weighting the asset betas that is the problem, it is as to whether they own the hotels or rent the hotels – the risk of the two may be different.
In general however you should always state your assumptions, and provided that they are sensible then you will still get the marks even if it differs from the examiners answer.
Thus, speaking more precisely, the estimation of asset beta based on 60% to ownership of property and 40% to hoteling services (based on revenue percentage) is not precise because the 40% of beta related to hoteling does not reflect the new business risk – as it still includes synergies from from possession of properties.
Am I correct?
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