Question

For the CAPM model, what beta should I choose for a beverage company:average beta for that industry, unlevered beta or unlevered beta corrected for cash? What is the difference between these 3 betas?

Thank you.

Answer 1

In order to do that procedure you will need to pass from a leverred beta to an unleverred cash adjusted beta. The forst step is to unlever the normal beta: Unlevered beta = Beta / (1 + (1-tax rate) D/E) The second step would be to correct for cash: Cash-adjusted beta = Unlevered beta / (1 – Cash/ Firm Value), where firm value is market value of equity + market value of debt. Each one of the three betas is different: 1) Average beta of the industry= beta levered and includes the debt to equity of the industry. 2) Unlevered beta includes cash: since you are discounting FCFF or FCFE to get PV of operations you are usinga discount rate that doesn't take cash into account since cash is considered a non-operating asset and 3) Use beta unlevered adjusted for cash (i.e without the impact of cash) to get the PV pf FCFF or FCFE and then add to this PV the cash balance.
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