Bailey and Sons has a levered beta of 1.10, its capital structure consists of 40% debt and 60% equity, and its tax rate is 40%. What would Bailey's beta be if it used no debt, i. e., what is its unlevered beta? a. 0.79 b. 0.67 c. 0.71 d. 0.64 e. 0.75

Option A. 0.79

Explanation:

All we have to do is convert the levered beta into unlevered beta (100% equity financed). So we will use the following formula to find unlevered beta:

Unlevered Beta = Levered Beta /  (1   +  (1+T)* D/E)

Here,

Tax rate is 40%

Debt is 40%

Equity is 60%

And Levered Beta is 1.10

Now by putting values, we have:

Unlevered Beta =     1.10   / (1   +  (1 - 0.4)* 40% / 60%)

Unlevered Beta =     1.10  / (1 +   0.6 * .667)

Unlevered Beta =     1.10  / (1 +    0.4)

Unlevered Beta =     1.10  / (1.4)

Unlevered Beta =     0.786 which after rounding off we have 0.79

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