Bailey and Sons has a levered beta of 1.10, its capital structure consists of 40% debt and 60% equity, and its tax rate is 25%.What would Bailey's beta be if it used no debt, i.e., what is its unlevered beta?
A) 0.60
B) 0.63
C) 0.66
D) 0.70
E) 0.73

Question

Quizplus · Accepted Answer

The unlevered beta ($\beta_u$) can be calculated using the formula $\beta_u = \beta_l / [1 + ((1 - Tax Rate) * (Debt/Equity))]$, where $\beta_l$ is the levered beta. Plugging in the values: $\beta_u = 1.10 / [1 + ((1 - 0.25) * (0.40/0.60))]$ = 1.10 / [1 + (0.75 * 0.6667)] = 1.10 / 1.5 = 0.73.

Bailey and Sons Has a Levered Beta of 1