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b. Fuller’s Selection of a Beta
In applying the CAPM method, Fuller chose a beta12 of .7 to
estimate Green Light’s systematic risk. An average amount of
risk is represented by a beta of 1. A beta of 70 percent would
be correct if an investment in Green Light were 30 percent less
risky than a composite investment of the Standard & Poor’s 500
Stock Composite Index (S&P 500). We disagree with Fuller’s use
of a .7 beta because Green Light was a small, regional company,
had customer concentrations, faced litigation and environmental
claims, had inadequate insurance, was not publicly traded, and
had never paid a dividend. A beta cannot be correctly calculated
for the stock in a closely held corporation; it can only be
correctly estimated on the basis of the betas of comparable
publicly traded companies. See Estate of Hendrickson v.
Commissioner, supra; Furman v. Commissioner, supra. Fuller
stated that he selected the beta based on a review of comparable
companies. However, he did not identify these comparable
companies or otherwise give any reason for his use of a .7 beta.
We believe Fuller’s use of a .7 beta improperly increased his
estimate of the value of the Green Light stock.
12 Beta is a measure of systematic risk; that is, risk that
is unavoidable and that affects the value of all assets. Beta
measures the volatility of a stock’s return as compared to the
market as a whole. See Furman v. Commissioner, supra; Pratt et
al., Valuing a Business 166 (3d ed. 1996).
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