38 Shareholder Risk Suppose a firm’s business operations mirror movements in the economy as a whole very closely – that is, the firm’s asset beta is 1.0. Use the result of the previous problem to find the equity beta for this firm for debt–equity ratios of 0, 1, 5 and 20. What does this tell you about the relationship between capital structure and shareholder risk? How is the shareholders’ required return on equity affected?

Explain.