Fundamental Glossary / Valuation Methods
Cost of Equity
The return shareholders require for holding the equity, given its risk.
Formula
A common estimate is the risk-free rate + beta x equity risk premium. Dividend yield plus a growth rate is another, from the Gordon model, when the dividend is the cash flow.
What it means
Cost of equity is the discount rate for cash flows that belong only to shareholders: dividends or free cash flow to equity.
It is higher than the cost of debt because equity is paid last. A levered firm has a higher cost of equity than an unlevered one, because the equity bears more of the operating risk.
How to read it
Use a higher cost of equity for a cyclical, small, or poorly governed business than for a stable large one, unless your beta already captured that risk. Do not also add a pile of extra premiums that double-count it.
What to watch
Beta from a short, illiquid price history is noise. A bottom-up industry beta is often steadier. Say which you used.
This note explains the term. It is not a research recommendation, a target price, or a comment on any security. Ratios and regulatory thresholds change; use the latest filing or circular for a live figure.