Question

Lmt plc is a growing company specialising in making accessories for mobile phones and tablets. The company is currently all-equity financed with 2 million ordinary shares in issue. The existing shareholders are mainly family members and friends. The directors of Lmt plc need to raise finance to fund a new factory and are considering a range of options including flotation and venture capital. Future growth is anticipated to be following:

Earnings next year = 0.25 M €, expected to grow at 7% pa;

Dividend next year = 0.14 M €, expected to grow at 4% pa.

Flotation.

Q plc, a listed company with similar business activities to Lmt plc has a P/E ratio of 9, an equity beta of 1.2 and gearing, measured as Debt to Equity of 1:2. Lmt plc is expected to grow faster than Q plc, at least in the short term.

If flotation is approved, then the issue share price would be set at a 15% discount to fair value. The directors of Lmt plc do not believe that an asset valuation is of much use here.

Calculate the value of Lmt plc's beta to 2 decimal places!

Select one:

a. 0.72

b. 0.79

c. 0.82

d. 0.89

That's all

Answer 1

Flotation means public issue i.e means new funds will raise from new issue of shares. So LMT PLC will be debt-free company also after that. Q PLC and Lmt plc are in similar business and after public issue both are on same platform. Only difference is levered firm is Q PLC while unlevered firm is Lmt Plc. We all know beta reprsent systematic risk means market risk. Q plc and lmt plc both are corelated with markets.

Therefore, Beta will be same, so we calculate unlevered beta for lmt plc from Q plc beta.

Bu = Bl / (1+Debt/Equity) = 1.20 / (1+0.333333) = 0.89/-