While the concept of cost of equity is widely used, I personally find several issues with current form which I will raise in the course of this post.

What is cost of equity?

Nothing beats a Wikipedia definition – in finance, cost of equity is the return a firm theoretically pays to its equity holders as compensation for the risk of investing. While a firm’s present cost of debt is relatively easy to determine from observation of interest rates in the capital markets, its current cost of equity is unobservable and must be estimated.

How is cost of equity derived?

There are currently 2 ways to calculate the cost of equity for a firm. The first is from the Capital Asset Pricing Model where the cost of equity is equal to the beta of a firm multiplied by a risk premium plus the risk free rate. The second and less ......