JR's is preparing to start a new project in an industry that differs significantly from its current operations. JR's has searched and found the beta of a firm that is a good fit as a good pure play for this new project. Given this good fit, why might JR's assign a higher beta to the project than the beta of the pure play?
The generally accepted practice would be to assign a beta to the project that is based on the average of the firm’s beta and the pure play’s beta.
a. The revenues of the project may be expected to be less cyclical than those of the pure play.
b. The firm may use less debt in its operations than does the pure play.
c. The new project may be more responsive to the economy than the pure play and thus represent a higher risk.
d. The project may incur flotation costs so a higher beta is warranted to offset the additional cost.