Master the **Unlevered & Levered Beta Formulas** so you can use them in interviews and on the job in __ Investment Banking__,

**, and**

__Private Equity__**.**

__Investment Management__In this article, you will learn:

What

**Beta**actually is and**why it is important.**The differences between

**Levered****vs Unlevered Beta**.How to

**source Beta**and how to**calculate Beta for a Private Company**.How to answer the

**most commonly asked interview questions**involving**Beta**.

Estimated reading time: 11 minutes

## TL;DR

Beta is a measure of the

**risk profile**of a Company relative to the overall market.**Unlevered Beta**measures the risk profile of a firm**without taking into account**its Capital Structure (i.e., not taking into account the company’s level of Debt).- Investors use
**Levered Beta**in the**Capital Asset Pricing Model (CAPM)**to calculate Investor Expected Returns (i.e, the ‘Cost of Equity’).

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## What Is Unlevered vs Levered Beta?

**Unlevered & Levered Beta **are **critical concepts** to master if you are **aiming for (or working in) Finance**.

Generally, the concepts underlying **Beta** **are often not well understood**.

In this article, we will provide a variety of illustrations to **make the concept clear**.

### Beta: Systematic vs Unsystematic Risk

Before we dive into **Unlevered Beta vs Levered Beta**, let’s take a quick look at the **differences between Systematic Risk and Unsystematic Risk**, which is a critical concept underlying Beta.

#### What Is The Difference Between Systematic and Unsystematic Risk?

**Systematic Risk** is **inherent** to all companies rather than individual Companies. For example, a pandemic would be a systematic risk to all Companies.

**Portfolio diversification does not mitigate Systematic Risk.**

On the other hand, **Unsystematic Risk is a company-specific risk**.

A Company’s **Levered Beta captures both Systematic and Unsystematic Risk**.

**Discounted Cash Flow Analysis**, which is a core valuation approach, relies on the usage of **Levered Beta**.

So, understanding how to **calculate Levered Beta from Unlevered Beta** (and vice versa) is **critical if you work in Finance**!

Also, by understanding these concepts, you will be well-placed to better **understand investing decisions in the overall stock market**.

### Let’s Begin With Unlevered Beta (aka ‘Asset Beta’)

Unlevered Beta **does not take into account the level of Financial Leverage (i.e., Debt)** and risk profile of a company.

So, if we aren’t considering the financial risk, what we are left with is the **root-level Business risk of a Company (i.e. the risk of a Company’s Assets/Operations**).

In fancy terms, **Unlevered Beta does not **take into account the firm’s ‘**Capital Structure**‘ (i.e., the mix of Debt vs Equity)**.**

This **‘root-level’ view **of a Company’s risk profile enables us to **gauge the underlying risk of a Company, absent the impact of Debt.**

### Now, Let’s Look at Levered Beta

**Levered Beta depicts** the Beta of a Company incorporating its Debt/Equity mix.

High levels of Debt generally increase riskiness. So, Analysts typically examine this view as well. **All else equal, more Debt means more risk. **

## Why Does Beta Matter?

So, now you know what Beta is and the differences between **Unlevered and Levered Beta**, let’s take a closer look at what Beta actually is in the **context of the Capital Asset Pricing Model (‘CAPM’).**

Essentially, the CAPM formula captures an** investor’s expected rate of return relative to the level of risk taken.**

We want to calculate the **Cost of Equity**, so we start off with the **Risk-Free Rate of Return** with taking **zero risk** as the starting point.

Then, we add to that the reward for **investing in the market** above and beyond that risk-free rate. T**his is where Beta kicks in.**

This **Equity Risk Premium **can be **dialed up or down by the Beta, based on the level of risk inherent in the underlying Company**.

For a Company with a higher **Equity Beta, **we would expect higher returns, because we are taking on a higher level of risk.

Conversely, for a lower **Equity Beta** Company, we would expect lower returns.

**To keep it simple, increased risk should yield higher returns for investors.**

## The Unlevered Beta Formula

To calculate the **Unlevered Beta** of a Company, we use the following formula:

**Unlevered Beta = Levered Beta / [1 + (1 – Tax Rate) x (Debt/Equity)]**

**Don’t panic!**

Although the formula may seem daunting at first,** let’s take a step back and think about it for a second.**

**The Concept: Unlevered Beta to Levered Beta**

We know that **Unlevered Beta **doesn’t account for any **Debt** **(i.e., Capital Structure is ignored)**.

But investors need to consider the **bigger picture of the Company’s situation, including the level of Debt.**

So, if we want to know more about the whole picture, it’s useful to know **how much of the Company is Debt and how much is Equity** (or the **Debt-to-Equity Ratio**).

That’s what you’re seeing in the illustration above.

This formula takes you from **Equity Beta** by accounting for the **Debt-to-Equity Ratio** and the **Tax Rate** to arrive at **Unlevered Beta**.

### The Formula: Unlevered Beta to Levered Beta

More mechanically, to calculate the **Levered Beta**, you start with the **Unlevered Beta** of a Company:

**Levered Beta = Unlevered Beta * [1 + (1 – Tax Rate) x (Debt/Equity)]**

The **Levered Beta** is also called the ‘**Equity Beta’ of a Company**.

Now, let’s talk about **where Beta comes from in the first place!**

**The Root of Beta**

**Beta** **is the output of a Regression Analysis **that compares an Individual Company’s returns to the return of the aggregate Stock Market (typically the S&P 500).

If you’re not mathematically inclined, the above simply shows the relationship between the **change in Stock Price vs the change in the value of the Stock Market**.

In more mathematical terms, Beta is the slope of the line of the regression.

## How to Calculate Beta for a Private Company

Everything above works great for a Publicly Listed Company.

**But what happens when you are asked to find the Beta of a Private Company?**

Here are the **4 steps to find a Private Company’s Beta**:

**Find Peer Betas**Find the Levered Betas of a group of peer companies in the same industry and ideally in the same sector.

**De-Lever Peer Betas****De-lever the industry peer Betas**of the Publicly Listed Companies using the**Unlevered Beta**formula.**Take The Average or Median**Calculate the

**Average or Median**of the**Unlevered Betas**for the comparable companies.**Re-Lever With Current / Target Capital Structure**Finally, for the subject company re-lever the Beta to go from the Company’s Unlevered Beta to its Levered Beta.

**By re-levering Beta**, you can now assess the Target Company’s risk profile using its publicly listed peers as a proxy.

Quick Note: If you don’t have sufficient information on the company’s Capital Structure, you can use **average Peer Debt-To-Equity ratios** as a proxy for the subject company’s market performance.

By following the steps outlined above, you can obtain the** Target Company’s Beta.**

Now, let’s see **where we can find Beta in real life**.

## How to Source Beta?

If you’re **on the job, Bloomberg, CapitalIQ, or Factset are your friends here**. However, those platforms are incredibly expensive for individuals.

But **if you’re a student **reading this, chances are you don’t have access to fancy Bloomberg terminals – but don’t panic.

You can still access this information using **Yahoo Finance or ****Koyfin**** (see example below)**.

With that covered, let us now take a look at **how Beta shows up in Investment Banking and Private Equity Interviews**.

## Common Unlevered Beta Interview Questions

Questions about Beta are quite common in Finance interviews. In particular, if you are aiming for a **career in Investment Banking**, this is a concept you would want to understand in detail.

A few common interview questions are:

*How would you go about calculating the Unlevered Beta for a private company?**How does the total debt of a company affect its Beta?**Which is more useful for investors, the Unlevered or Levered Beta?*

To answer these questions, you will **need to understand:**

Beta for a private company

How debt impacts the risk of a company and how more debt impacts expected returns

How investors use beta to assess a company’s risk profile

With all of this covered, let’s now wrap up our discussion on **Beta**.

## Wrap-Up: Unlevered vs Levered Beta Formulas

**Hopefully**, you now have a **much better understanding of** **Unlevered Beta and Levered Beta**.

As we discussed throughout this article, **Beta is a critical measure of risk **used throughout the Finance world.

**Beta is** **important** because it tells you the sensitivity of the Security/Asset to the overall (i.e. ‘systematic’) risk of the Stock Market.

We hope you found this article helpful!

**Let us know if you have any questions in the comments below. We’d love to hear from you!**

**Video Review: Unlevered Beta Formula**

*Want a video overview of Unlevered Beta Formula?*

Check out this **YouTube ****Video Walkthrough**** of Unlevered Beta Formula **from our Founder, Mike Kimpel, with a full walkthrough.

Also, check out our **YouTube Channel** for more Interview Question reviews and **Finance Explainer Videos**, and follow us on **Instagram** for daily finance tips and tricks.

**About the Author**

**Mike Kimpel** is the **Founder and CEO** of **Finance|able**, a next-generation Finance Career Training platform. Mike has worked in Investment Banking, Private Equity, Hedge Fund, and Mutual Fund roles during his career.

He is an **Adjunct Professor** in **Columbia Business School’s Value Investing Program** and leads the Finance track at **Access Distributed**, a non-profit that creates access to top-tier Finance jobs for students at non-target schools from underrepresented backgrounds.

## Frequently Asked Questions

**What is Unlevered Beta?**

**Unlevered Beta is a measure of a Company’s Business/Operational risk.** It doesn’t take into account the Financial Leverage and Capital Structure of a Company.

**How to calculate the Unlevered/Asset Beta?**

**Asset Beta**, also known as **Unlevered Beta**, can be found by taking the Levered Beta and dividing it by [1 + (1 – tax rate) x (debt/equity)]. The Levered Beta can be found using on-the-job resources like Bloomberg or from other resources like **Koyfin**.

**What are Levered and Unlevered Beta?**

**Levered and Unlevered Beta are both measures of the Risk Profile of a Company.** **Levered Beta** takes into account the Financial Leverage / Capital Structure of a firm. **Unlevered Beta** purely measures the Business / Market Risk.

**What is Asset Beta?**

Asset Beta, also known as Unlevered Beta, is an assessment of the Business Risk of a Company **without taking into account its Capital Structure**.