AB CD, a Textile mill, has four main businesses. B eta and percentage of each bu
ID: 2662173 • Letter: A
Question
AB CD, a Textile mill, has four main businesses. B eta and percentage of each business is as follows: What is the beta of AB CD Corporation? After the analysis of the market, following information was gathered: risk free rate is 6% and market risk premium i s 3%. What i s the AB CD Corporation' s required rate of return? The above mentioned company is considering the change in its strategic focus due to changing market trends. As a result, it want to focus more on children garments, now 50% of its total investment will be in Children Garments and this change will reduce its reliance on Fants & Trousers business, while the investment in T-Shirts and Jackets will remain the same. What will be the shareholder's required rate of return if AB CD adopts these changes?Explanation / Answer
1. Beta of ABCD corp is weighted avge of individualinvestments. Weighted avge for Tshirt is 100,000/1,000,000=0.1 & so on So Beta = 0.1*1.5 + 0.2*(-0.5) + 0.3*1.25+0.4*0.75 = 0.725 2. ABCD Reqd rate of Return Ks=Krf+RPm*Beta = 0.06+0.05*0.725 =9.625% 3. Children garments will be 500,000, Tshirt is 100,000, Jacket is200,000 & Pants is 200,000 Revised Beta will be 0.1*1.5 + 0.2*(-0.5) + 0.5*1.25+0.2*0.75= 0.825 Revised ABCD Reqd rate of Return Ks=Krf+RPm*Beta =0.06+0.05*0.825 = 10.125%