Question
Company Upstart goes public. In order to value the company the investment bank that underwrites the offering needs to value Upstart. An important part of
Company Upstart goes public. In order to value the company the investment bank that underwrites the offering needs to value Upstart. An important part of this is to determine the cost of capital at which they should discount
Upstarts future cash flows. The investment bank looks at the data of the industry at the time and finds the following three companies:
Company | Equity Beta | Debt Beta | Debt/Equity Ratio |
A | 0.9 | 0.0 | 20% |
B | 1.0 | 0.1 | 25% |
C | 2.1 | 0.3 | 50% |
When Upstart goes public, they will also take on debt to make up 30% of their capital structure. This debt would have a beta of 0.15. The market risk premium is 8% and the risk free rate of interest is 1%.
a) What is a good estimate for Upstarts cost of capital?
b) What is the expected return on Upstarts equity after they go public?
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