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Published bySamantha Eaton Modified over 7 years ago

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Cost of Equity Capital Calculation Methods Market determined standard Comparable earnings standard

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Market determined standard Earnings-price ratio –Cost of equity capital is equal to the ratio of current earnings per share to the market price per share Discounted cash flow model (DCF) –Formula is (d/p) + g d is current dividend per share p is current market price per share g is expected rate of growth in dividends per share

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Market determined standard (cont.) Capital Asset Model (CAPM) –Formula is R f + (R m – R f )β R f is risk free return R M is expected return on a stock market portfolio Β is the beta coefficient (company’s relevant market risk)

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Comparable earnings standard Based on the idea of opportunity cost –“capital should not be committed to any venture unless it can earn a return commensurate with that prospectively available in alternative employments of similar risk.”—testimony regarding Tampa Electric Co by S. F. Sherwin. –Examine earnings on common equity for enterprises with similar risk, or with different risk with allowance for risk differences

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