Estimating the Assets-in-Place Beta: A Feedback Algorithm

36 Pages Posted: 23 May 2009 Last revised: 9 May 2010

See all articles by Pablo de Andrés

Pablo de Andrés

Universidad Autonoma de Madrid; ECGI

Pedro Fortuny-Ayuso

University of Oviedo, Dpt. of Mathematics

Gabriel de la Fuente

University of Valladolid - Department of Financial Economics and Accounting

Date Written: May 1, 2010

Abstract

Based on the linear decomposition of a firm's beta on the betas of its growth options and its Assets in Place, we propose a feedback algorithm to estimate the latter. Our proposal is founded on the existence of risk classes defined by a specific level of systematic risk for current business and growth opportunities. We test our model on a sample of US firms over the period 1994-2007, by identifying risk classes with industry groups as defined by Fama-French's 48-segment classification (Fama and French, 1997). Our results confirm rapid convergence of estimated parameters, and values which are quite consistent with the real option approach predictions. Our model addresses a practical problem which is yet to be resolved and is crucial for valuing firms and capital budgeting decisions. Empirical results are encouraging and shed new light on the problem of estimating the cost of capital.

Keywords: real options, growth opportunities, beta estimation, cost of capital, valuation

JEL Classification: G12, G31

Suggested Citation

Andrés, Pablo de and Fortuny-Ayuso, Pedro and de la Fuente-Herrero, Gabriel, Estimating the Assets-in-Place Beta: A Feedback Algorithm (May 1, 2010). Available at SSRN: https://ssrn.com/abstract=1407260 or http://dx.doi.org/10.2139/ssrn.1407260

Pablo de Andrés

Universidad Autonoma de Madrid ( email )

Campus de Cantoblanco
C/ Francisco Tomás y Valiente, 5
Madrid, Madrid 28049
Spain
+34 91 497 6527 (Phone)
+34 91 497 3954 (Fax)

HOME PAGE: http://www.uam.es

ECGI

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Pedro Fortuny-Ayuso

University of Oviedo, Dpt. of Mathematics ( email )

Escuela Univ. de Ingeniería Técnica Industrial
Campus Universitario de Gijón (Viesques)
Gijón, 33203
Spain

Gabriel De la Fuente-Herrero (Contact Author)

University of Valladolid - Department of Financial Economics and Accounting ( email )

Avda. Valle Esgueva 6
47011 Valladolid
Spain

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