Inflation: Importance of debt beta in company valuation

The current inflation trend and rising interest rates are having a significant impact on company valuations. Inflation can erode the value of a company – which is why it is important to take a debt beta into account when valuing a company.

Inflation and rising capital costs

Persistently high inflation leads to rising capital costs, which has a direct impact on company values:

  • Higher interest rates: Central banks respond to inflation by raising interest rates, which leads to an increase in the risk-free rate.
  • Rising capital costs: The capitalisation rate used for company valuation rises due to the higher risk-free rate.
  • Declining company values: Higher capital costs lead to lower company values when discounting future cash flows.

Increasing valuation risks

With the rising cost of capital, the valuation risks for companies are also increasing:

  • Pressure on investment valuations: Rising interest rates and possibly falling earnings due to inflation are putting investment valuations under pressure.
  • Risk to goodwill: Goodwill is also coming under pressure, leading to an increased risk of impairment.
  • Impairment: Especially investments made in times of low interest rates can quickly become subject to impairment.

Why you should consider a debt beta

Debt beta means: not only equity bears risk – risk also lies with debt capital. Including a debt beta in your company valuation is important for the following reasons:

  • more realistic risk assessment: the debt beta takes into account the systematic risk of debt financing and enables a more accurate assessment of company risk.
  • Avoiding undervaluation: Not taking the debt beta into account can lead to an overvaluation of the unlevered beta and thus to an undervaluation of the company.
  • Alignment with market standards: The use of the debt beta concept is increasingly being recommended in valuation practice and standard setting.

By taking the debt beta into account in your business valuation, you can achieve a more precise and market-oriented valuation of your business that better reflects the current economic challenges.

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