What does beta indicate? How is it connected with a company’s valuation? Does it cause a change in valuation or it is visa-versa? We address that here today.
Beta is considered a risk measure more than a value measure. Beta measures volatility of stock prices (equity value) relative to the market. And the stock prices/value of equity is driven by valuation. So, the beta of a company does not provide any indication of the company’s value. If anything, the stock prices (equity value) influence betas and not the other way round.
The intrinsic value of a company is the sum of the present value of all future cash flows impacts the share price which impacts Beta. So beta, is ‘dependent’ on valuation. Note, however, that beta impacts valuation by contributing to the discount rate as it is an input in the cost of equity when the CAPM is used.