Your firm uses 50% debt financing and 50% equity financing. The beta of the debt is 0 since the firm has more than enough cash reserves to retire the debt completely. An identical firm that
Is entirely equity-financed has a market beta of 1.2. What is your firm's equity market beta?

Question

Quizplus · Accepted Answer

The equity market beta of the leveraged firm can be calculated using the formula for leveraged beta: $\beta_L = \beta_U + [\beta_U - \beta_D](\frac{D}{E})$, where $\beta_L$ is the leveraged (equity) beta, $\beta_U$ is the unleveraged (asset) beta, $\beta_D$ is the debt beta, $D$ is the debt proportion, and $E$ is the equity proportion. Given $\beta_U = 1.2$, $\beta_D = 0$, $D = 0.5$, and $E = 0.5$, substituting these values gives $\beta_L = 1.2 + [1.2 - 0](\frac{0.5}{0.5}) = 2.4$.

Your Firm Uses 50% Debt Financing and 50% Equity Financing