Beta Calculations

Beta Calculations

In order to calculate cost of equity (RE) for the 7E7 project, it is essential to estimate a number that can accurately represent the risks associated to Boeing's commercial aircraft business (BECommercial).

We first take Boeing's overall equity beta (BEBoeing) of 0.8 and apply the following formula to arrive at its asset beta (BUBoeing), which represents the operational risks associated with Boeing's underlying business despite the effect of debt.

BU=BL1+1-τC×DE

Assumption: S&P 500 is chosen over NYSE and other indexes because Boeing and its competitors (e.g. Lockheed Martin and Northrop Grumman) are all listed on S&P 500. Furthermore, S&P 500 is a relatively more exclusive index that includes only the largest 500 companies on NYSE; it accurately represents the volatility of these companies' stocks which all have similar market capitalizations as Boeing.

As a result, we calculate a BUBoeing of 0.596.

Using the same formula, we can calculate BULockheed and BUNorthrop as 0.284 and 0.240 respectively. Both Lockheed and Northrop have over 90% of their revenue generated from the defense & space industry, therefore, we can take the average of their betas and use it as a reasonable estimation of BUDefense.

We estimate BUDefense to be 0.262.

Since Boeing operates in both the commercial aircraft and the defense & space businesses, we have to separate BUBoeing into BUCommercial and BUDefense based on the sizes of the two businesses by using the following formula.

BUBoeing= WCommerical×BUCommercial+ WDefense × BUDefense

Assumption: Sizes of the two businesses are determined based on the percentage of revenue they each generated relative to total revenue. Boeing's commercial aircraft and defense & space businesses contributed 54% and 46% of total sales respectively.

We arrive at a BUCommercial of 0.881.

Finally, we relever the asset beta of Boeing's commercial aircraft business by adding back the effect...