ACCA AFM 2026: The Beta Mistake That Wrecks Your Whole NPV
Your discount rate is wrong before you even reach the cash flows
In an AFM project appraisal, if the new investment carries different business risk from the rest of your company, you cannot use your own equity beta. You take a proxy company's equity beta, strip out its gearing, then rebuild it at your project's gearing. Skip that and every discounted cash flow that follows is built on the wrong number.
What the examiner keeps seeing
The AFM examiner's reports repeatedly flag the same failure: candidates calculate a geared cost of equity when they need an ungeared one, or they ungear the proxy beta correctly and then forget to re-gear it to the project's capital structure. Either way the risk-adjusted discount rate is wrong, and the marks for the entire NPV go with it.
It gets worse in APV questions. The examiner notes a "fundamental misunderstanding of the purpose and relevance of the APV method" — candidates discount the financing side effects (like the tax shield) at the all-equity cost of capital instead of the cost of debt. The base case gets discounted at the ungeared rate; the financing flows do not.
Two more silent mark-killers the examiner names: ignoring the one-year time delay on tax when building the tax shield, and dropping inflation or tax entirely out of a complex APV scenario. These are marks the model answer hands you — candidates leave them on the table.
Wrong vs right: the beta
A proxy firm has an equity beta of 1.4 and gearing (debt:equity) of 40:60. Your project will be financed 30:70. Tax is 20%. Risk-free rate 4%, equity risk premium 6%.
Wrong (scores poorly): plug 1.4 straight into CAPM. Cost of equity = 4% + 1.4 × 6% = 12.4%. You have used the proxy's financial risk, not your project's.
Right: ungear first. Asset beta = 1.4 × [60 ÷ (60 + 40 × 0.8)] = 0.913. Now re-gear to your 30:70 structure: equity beta = 0.913 × [1 + (30 × 0.8) ÷ 70] = 1.226. Cost of equity = 4% + 1.226 × 6% = 11.36%.
A full percentage point of difference on the discount rate — enough to flip a marginal NPV from positive to negative and take your recommendation with it.
What to do
1. Always ask "is the risk different?" If the project's business risk differs from the company's, you must ungear a proxy beta and re-gear it. Same risk, same gearing? Then your own beta is fine. State which case you're in.
2. Use market values and 1 − T, every time. Ungear and re-gear on market values of debt and equity, and remember the (1 − T) factor on debt. Book values and missing tax terms are instant marks lost.
3. In APV, split the discount rates. Base-case flows at the ungeared cost of equity; financing side effects at the cost of debt. And build the one-year tax delay into the shield before you discount it.
The bottom line
AFM pass rates sit around the mid-30s%, among the lowest at Strategic Professional. The candidates who fall short rarely fail on the hard judgement — they fail on the discount rate they set in the first five minutes. Get the beta right and the rest of the question is yours to lose.