The calculation and estimation of Unlevered Cost of Capital serves to provide a metric of internal derivation and is an essential component in measuring a company’s financial statement. The Unlevered Cost of Capital provides investors the ability to contrast the cost of capital with the return on equity of a firm. This is significant as it assists in providing an estimation of the overall financial soundness of the firm, as well as the ability of a firm’s financial viability over time. By measuring the amount of risk associated with an investment, the unlevered cost of capital can act as a gauge of financial stability.

The Unlevered Cost of Capital is often used when valuing a company or projecting the value of a company’s assets. It provides accurate estimates that enable investors to decide whether an investment is profitable, how much the company should charge for the capital it uses, and how the company should finance its operations. Unlevered Cost of Capital is highly desired by investors due to its flexibility when it comes to comparing investments and analyzing the potential of each.

To determined the Unlevered Cost of Capital (or Unrewarded Cost of Capital), the following three components must be taken into consideration: Unlevered Beta, Market Risk Premium and the Risk-Free Rate of Return. Unlevered Beta represents a measure of a company’s Risk Adjusted Rate of Return, which is the additional return above the Risk-Free Rate of Return that is warranted due to the higher risk associated with the stock. Meanwhile, the Risk-Free Rate of Return is the return that could be expected from an investment in a government bond. Lastly, the Market Risk Premium is the difference between the return from an average market portfolio and the Risk-Free Rate of Return.

In summary, Unlevered Cost of Capital is an essential tool that investors utilize to measure the cost of capital of a particular investment. The Unlevered Cost of Capital is higher than the Levered Cost of Capital, as it does not include the cost of debt. The calculation of Unlevered Cost of Capital requires the consideration of Unlevered Beta, Market Risk Premium and the Risk-Free Rate of Return in order to get a proper estimate. Knowing the Unlevered Cost of Capital can allow investors to make a more accurate assessment of the financial viability of a firm.