Estimate the systematic risk of the new investment, Financial Accounting

Q. Estimate the systematic risk of the new investment?

The beta of the comparator company will be utilized to estimate the systematic risk of the new investment. No un-gearing is essential as the asset beta of the comparator company is given. This will require to be regarded to take into account the capital structure of our company.

Re-gearing

Beta equity = beta asset*E + D(1- t))/ E

Beta equity = 0·90 *214 + 85(1- 0.3))/ 214= 1.15

Using the capital asset pricing model

ke = Rf + (Rm - Rf) beta = 6% + (14% - 6%) 1·15 = 15·20%

Cost of debt

This remains at 3·60%

Market value of equity $214m

Market value of debt $85m

Weighted average cost of capital

15·20% *214/299+ 3·60% *85/299= 11·90%

The discount rate to be utilized in the investment appraisal when diversifying into the new industry is 11·90%

Posted Date: 7/12/2013 12:35:48 AM | Location : United States







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