Unlevered Beta

A company's observed beta, measured from its share price, reflects both the risk of its business and the extra risk shareholders bear because of its debt. Debt makes shares more volatile, because interest must be paid before shareholders receive anything. Unlevering strips out this financial risk.

A common formula divides levered beta by one plus the debt-to-equity ratio multiplied by one minus the tax rate. For example, a company with a levered beta of 1.2, a debt-to-equity ratio of 0.5 and a tax rate of 25% has an unlevered beta of about 0.87.

Unlevered beta is also called asset beta. It is used when estimating the cost of equity for a company whose own beta is unreliable or unavailable, such as a private company or a business unit. Analysts take the betas of comparable listed companies, unlever them to remove differences in debt, take an average and then relever it at the target company's own capital structure.

The formula assumes debt carries little market risk and relies on stable debt levels, so it is an approximation.