A firm is valued at $8 million and has debt of $2 million outstanding. The firm has an equity beta of 1.5 and a debt beta of .60. The beta of the overall firm is:

Question

Quizplus · Accepted Answer

Beta of the overall firm can be calculated as follows:
Beta of equity = Equity beta = 1.5
Beta of debt = Debt beta = 0.60
Value of equity = $8 million - $2 million (debt) = $6 million
Value of debt = $2 million
Weight of equity = Value of equity/Total firm value = $6 million/($6 million + $2 million) = 0.75
Weight of debt = Value of debt/Total firm value = $2 million/($6 million + $2 million) = 0.25
Beta of the overall firm = Weight of equity * Beta of equity + Weight of debt * Beta of debt
= (0.75 * 1.5) + (0.25 * 0.60)
= 1.275

A Firm Is Valued at $8 Million and Has Debt