Type of Business
Sincebetasmeasuretheriskofafirmrelativetothemarket,
the more sensitive a business is to overall economic
conditions,thehigherisitsbeta.Thus,cyclicalfirmscanbe
expectedtohavehigherbetasthannoncyclicalfirms.Other
thingsremainingequal,then,companiesinvolvedinhousing
and automobiles,two sectorsoftheeconomythatarevery
sensitivetoeconomicconditions,willhavehigherbetasthan
companiesthatareinfoodprocessingandtobacco,whichare
relatively insensitive to business cycles. Building on this
point, we would also argue that the degree to which a
product’spurchaseisdiscretionarywillaffectthebetaofthe
firmmanufacturingtheproduct.Thus,thebetasofgrocery
store chains should be lower than the betas of specialty
retailers, since consumers can defer the purchase of the
latter’s products during bad economic times.
Degree of Operating Leverage
Thedegree ofoperating leverageis a functionof thecost
structure ofa firm,and is usuallydefined in termsof the
relationshipbetweenfixedcostsandtotalcosts.Afirmthat
hashighoperatingleverage(i.e.,highfixedcostsrelativeto
total costs) will also have higher variability in operating
incomethanwouldafirmproducingasimilarproductwith
low operating leverage.
30 This highervariancein operatingincome willleadtoa
higherbetafor thefirmwith higheroperatingleverage. In
fact,thismayprovidearationaleforwhysmallfirmsshould
havehigherbetasthanlargerfirmsinthesamebusiness.Not
onlyaretheyfarmorelikelytooffernicheproducts(which
are discretionary), but they are also likely to have higher