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The importance of Hamada's equation is that it separates the risk of the business, reflected here by the beta of an unlevered firm, β U, from that of its levered counterpart, β L, which contains the financial risk of leverage. Apart from the effect of the tax rate, which is generally taken as constant, the discrepancy between the two betas ...
APV formula; APV = Unlevered NPV of Free Cash Flows and assumed Terminal Value + NPV of Interest Tax Shield and assumed Terminal Value: The discount rate used in the first part is the return on assets or return on equity if unlevered; The discount rate used in the second part is the cost of debt financing by period.
Consider two firms which are identical except for their financial structures. The first (Firm U) is unlevered: that is, it is financed by equity only. The other (Firm L) is levered: it is financed partly by equity, and partly by debt. The Modigliani–Miller theorem states that the enterprise value of the two firms is the same.
Beta, or the beta coefficient, measures volatility relative to the market and can be used as a risk measure. By definition, the market always has a beta of 1, so betas above 1 are considered more ...
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The following calculation is then applied to return the beta coefficient of company A. Unlevered Beta of B = Equity Beta of B / (1 + DE B × (1 − Tax Rate B)) Equity Beta A = Unlevered Beta of B × (1 + DE A × (1 − Tax Rate A)) where DE A and DE B are the debt to equity ratios of company A and B respectively. [3]
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