Deck 23: Techniques for Measuring Beta Risk

Question 1

Which of the following methods involves calculating an average beta for comparable firms and using that beta to determine a project's beta?

A) Risk premium method
B) Pure play method
C) Accounting beta method
D) CAPM method
E) Discounted cash flow model

Answer 1

B

Question 2

Northern Conglomerate has two divisions,Division A and Division B.Northern looks at competing pure-play firms to estimate the betas of each of the two divisions.After this analysis,Northern concludes that Division A has a beta of 0.8 and Division B has a beta of 1.6.The two divisions are the same size.The risk-free rate is 5.00% and the market risk premium is 7.00%.Assume that Northern is 100% equity financed.What is the overall composite WACC for Northern Conglomerate? Do not round your intermediate calculations.

A) 12.73%
B) 14.07%
C) 13.40%
D) 10.05%
E) 15.41%

Answer 2

C

Question 3

.Interstate Transport has a target capital structure of 50% debt and 50% common equity.The firm is considering a new independent project that has a return of 14% and is not related to transportation.However,a pure-play proxy firm has been identified that has a beta of 1.38.Both firms have a marginal tax rate of 25%,and Interstate's before-tax cost of debt is 12%.The risk-free rate is 10% and the market risk premium is 5%.The firm should:

A) Be indifferent between accepting or rejecting;the firm's required rate of return on the project equals its expected return.
B) Accept the project;its return exceeds the risk-free rate and the before-tax cost of debt.
C) Accept the project;its return is greater than the firm's required rate of return on the project of 12.95%.
D) Reject the project;its return is less than the firm's required rate of return on the project of 16.9%.
E) Reject the project;its return is only 14%.

Answer 3

C