Definition of Cost Of Equity
Cost of equity or Ke is the rate of return required by the equity shareholders of a company. In case of debt the rate at which the interest is paid to the debtholders is called as cost of debt. The cost of equity is calculated using various methods depending on the way the return is awarded to shareholders. If the company has a history of paying dividends then the return can be calculated using the dividend valuation method.
Another method of calculating the cost of equity is through the capital asset pricing model or CAPM. As per CAPM, the cost of equity is as follows:
Ke = Risk-free rate + Beta x (Market return – Risk-free rate)
Ke = 3% + 1.2 x (9%-3%) = 10.2%
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