Question

What is the meaning of cost of equtiy ? Who pays this cost of equity and to whom? How do you calculate the cost of equity

Answer 1

Well,

cost of equity simply means return from a particular investment

Explanation:

Cost of equity has two sides:

a) Investor point of view, That is if an investor invest in a particular equity then an investor expect a rate of return which is the cost of equity of an investor.

b) Company point of view , If a company invest in a particular project or investements , then that company expect a rate of return, and if the return satisfies to the amount that is invested then it has a positive cost of equity.

Cost of equity is generally calculated using:

DIVIDEND CAPITALIZATION MODEL:

COST OF EQUITY = DPS / CMV +GRD

DPS = DIVIDENDS FOR SHARE FOR THE UPCOMING YEAR

CMV = CURRENT MARKET VALUE OF STOCKS

GRD = GROWTH RATE OF DIVIDENDS

CAPM MODEL

= RISK FREE RATE OF RETURN + BETA *(MARKET RATE OF RETURN - RISK FREE RATE OF RETURN)

Risk free rate of return means rate of return paid on risk free investments

Beta is the measure of risk

These are the two methods for calculating cost of equity.