What formula is used to calculate levered beta?

The correct formula to calculate levered beta involves taking unlevered beta and adjusting it for the impact of the company’s debt. Levered beta reflects the risk of a company’s equity as influenced by its capital structure, particularly the proportion of debt in relation to equity.

The formula uses unlevered beta as a baseline, which represents the risk of the company's assets without the impact of debt. By multiplying unlevered beta by the factor (1 + [(1 - tax rate) x (debt/equity)]), the calculation accounts for the additional risk introduced by debt financing, adjusted for the tax shield associated with interest expense. The tax shield is essential because it can lower the effective cost of debt, affecting the risk profile of the equity holders.

In summary, this method effectively captures the increased volatility or risk associated with a leveraged capital structure compared to an unleveraged one, aligning with the principles of the Capital Asset Pricing Model (CAPM) where risk is directly related to expected return.