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This can be amply demonstrated by an example taken from the Indian fertilizer industry.
Statement Showing Calculation of Beta (Using Bottom Up Approach)
| Name of Company |
Beta Equity (From stock & market movements) |
Debt/
Equity (Market Value) |
Beta (Assets) |
Market Value of Firm (in cr) |
Market Value Weighted Avg. Beta |
Industry Beta Assets |
Beta Equity (From Bottom-up Approach) |
| Chambal Fertilizes & Chemicals Ltd. |
0.3 |
0.671 |
0.208892 |
738.92 |
0.025667 |
0.491715 |
0.70617684 |
| Gujarat Narmada Valley |
0.92 |
0.497 |
0.695363 |
720.66 |
0.083331 |
0.491715 |
0.65056385 |
| GSFC |
0.84 |
0.7765 |
0.558242 |
422.86 |
0.039254 |
0.491715 |
0.73989622 |
| NFL |
0 |
0.30514 |
0 |
1717.02 |
0 |
0.491715 |
0.58924253 |
| Oswal Chemical & Fertilizer |
0.58 |
0.9548 |
0.357888 |
108.12 |
0.006435 |
0.491715 |
0.79688355 |
| RCF Ltd. |
1 |
0.212 |
0.878889 |
2306.06 |
0.337029 |
0.491715 |
0.5594736 |
In this example a set of five firms have been taken from the Indian Fertilizer Industry. The bottom up approach has been used in the computation of Beta.
If we analyze the calculations here we find that there are significant differences in the value of beta that we get in our analysis. For example Chambal Fertilizes & Chemicals Ltd of only 0.3 this is highly understated. The correct evaluation of beta shows that its beta is around 0.7 similarly for Gujarat Narmada and GSFC, the value of beta is overstated which might affect adversely the value of the firm.
However, it is imperative to note that although this method tries to eliminate some of the problems in the existing method of analysis. It is by no foolproof. Analysis of comparable firms can be a highly subjective process. It is also observed that the consideration of Beta Assets for the industry and its use to relever beta makes hardly any sense as each firm is unique and deserves to be evaluated on the basis of its unique profile.
In spite of these faults, such a mode of valuation should always be considered as it makes valuation objective and tries to eliminate some of the defects in the existing system.
* Contributed by -
Pinak Rudra Bhattacharyya,
Ist Year,
IMT Ghaziabad.
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