Which firms are relevant for obtaining an asset beta for the Collinsville investment? Using the betas, determine the appropriate discount rate for the investment. Evaluate the investment.
We are interested in obtaining the asset beta for the Collinsville investment. We can estimate asset betas by 1) looking it up in Bloomberg, 2) finding “identical twins” and comparing their betas, and 3) un-levering the beta from the company itself. Here, using 2 and 3 we are interested in both the asset beta of Dixon as well as the asset betas of companies whose assets are similar to the project (e.g. companies that own plants that produce Sodium Chlorate). Here, assuming a low grade debt beta of .3, Dixon has an unlevered beta of .73 based on the average debt/equity ratio from 1975-1979. However, it is important to note that Dixon has reduced debt in recent years so the unlevered beta goes up to .81 when unlevered using an average debt/equity ratio from 1978&1979 only. Looking at “identical twins”, we look at the financial statements of selected sodium chlorate producers listed in Exhibit 5. Using the estimated debt betas for different types of bonds from our class notes, the unlevered betas for these companies range from .59 to 1.07 with an average of .90. However, since we are evaluating the addition of a sodium chlorate plant, the two firms (Brunswick and Southern) who specialize in producing sodium chlorate are likely the best “twins”. They have betas of roughly .95. However, given Dixon’s beta of .81 I used
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