Cost Of Equity

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DEFINITION of 'Cost Of Equity'

In financial theory, the return that stockholders require for a company. The traditional formula for cost of equity (COE) is the dividend capitalization model:

 


Cost Of Equity

A firm's cost of equity represents the compensation that the market demands in exchange for owning the asset and bearing the risk of ownership.

BREAKING DOWN 'Cost Of Equity'

Let's look at a very simple example: let's say you require a rate of return of 10% on an investment in TSJ Sports. The stock is currently trading at $10 and will pay a dividend of $0.30. Through a combination of dividends and share appreciation you require a $1.00 return on your $10.00 investment. Therefore the stock will have to appreciate by $0.70, which, combined with the $0.30 from dividends, gives you your 10% cost of equity.

The capital asset pricing model (CAPM) is another method used to determine cost of equity.

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