Module II· Cost of Equity & CAPMIntermediate
Question
How do you unlever and relever beta (the Hamada formula)?
Answer
Unlever
β_U = β_L / (1 + (1−t) × D/E).
Relever
β_relevered = β_U × (1 + (1−t) × D/E_target).
Deep diveShow more details
Example
Inputs:
- Comp β_L: 1.2
- Comp D/E: 0.5
- Tax rate t: 30%
- Target D/E: 1.0
Calculation:
```
β_U = 1.2 / (1 + 0.7 × 0.5)
= 1.2 / 1.35 = 0.89
β_relevered = 0.89 × (1 + 0.7 × 1.0)
= 0.89 × 1.7 = 1.51
```
Assumption
Debt is low-risk (debt beta = 0). For high-yield: use the Modigliani-Miller variant with a debt beta.
Pitch tip
In a comps pitch, always: 'we unlevered each peer's beta and re-levered to target capital structure'.