Question on Discount Rates
Hello,
I'm currently working on an assignment that requires a DCF valuation for a private company and I'm trying to figure out the best course of action to take regarding calculating a discount rate.
We have been given information on the long term capital structure, long term beta, current equity risk premium, risk-free rate, and an estimated debt schedule spanning 4 years. We have also been given some info on four public comparables, mostly for the purpose of using their multiples.
Here is the situation
- The given long term beta (for the terminal period) is 1.00
- Terminal capital structure is a D/E of 0.25
- The average unlevered beta of the comparables is 0.73-0.75 (2-year historical beta).
- The average capital structure of the comps is a D/E of 0.15
- When I relevered it based on avg capital structure of the comparables I got a beta of 0.81
Would it make sense to use the levered beta based on the comparables for the short term and use the beta of 1.00 for the long term when I plug the figures into the CAPM?
Thanks.
bump
bump
Take the average unlevered beta - and relever it using the target terminal capital structure.
So 0.75 + (1- t) * 0.25 = 0.75 + 0.7 * 0.25 = ~0.92 is your relevered beta
The reason you use the target capital structure and not avg of comps, is that capital structure is company specific and, in this case, you have guidance on the long-term company capital structure.
The theory is that the average unlevered beta of comparables represents some average risk factor for this type of asset (regardless of capital structure, e.g., home builders are just straight up riskier than consumer staples) - and you then apply the riskiness of your capital structure to that.
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