Estimating the cost of equity is a key step in financial analysis, particularly in valuation and investment decision-making. A central component in this process is beta, which measures how sensitive a company is to market movements. In practice, it is important to understand how beta is constructed, and how factors such as leverage influence the overall risk profile of a firm.
At Amsshare, we work with financial models in which concepts such as beta and cost of equity play a central role. As these measures are widely used in valuation and risk analysis, it is essential to understand how they are derived and applied. This article provides a clear example of how these concepts are used, based on Adyen’s 2022 financial data.
Summary
This article explains how the CAPM can be used in practice to estimate the cost of equity, with a focus on the role of beta as a measure of systematic risk. Beta captures how sensitive a company’s returns are to movements in the overall market.
A distinction is made between the unlevered beta, which reflects the underlying business risk, and the levered beta, which incorporates the additional impact of financial leverage. Understanding this difference is essential when comparing companies or estimating firm-specific risk.
To move from unlevered to levered beta, the Hamada Formula is applied. This approach shows how leverage affects a company’s risk profile and allows for a consistent way to translate industry-level data into firm-specific inputs.
The article demonstrates this process using a real-life example of Adyen in 2022. Based on sector data and financial statements, a levered beta of 1.12 is calculated. This beta is then used within the CAPM framework to estimate the company’s cost of equity.
The results show that Adyen’s cost of equity in 2022 is approximately 8.36%, illustrating how these concepts are applied in practice and how they contribute to valuation and risk assessment.
