The Direct Determination of Risk-adjusted Discount Rates and Liability Beta

The development of a complete financial structure including balance sheet, income and cash flow statements, coupled with conventional accounting and economic valuation rules, provides the foundation from which riskadjusted discount rates and liability betas can be determined. Since liability betas cannot be measured directly, a shift in focus is proposed to one based on measures more readily available and better understood, such as cost of capital, equity beta, leverage, etc. The riskadjusted discount rate is shown as a function of these variables based on the developed financial structure and valuation framework. The liability beta is then shown to follow as a consequence, also to be calculated as a function of these same variables. The risk-adjusted discount rates that result are less than the risk-free rate and the liability betas are negative to a greater degree than often suggested.