Cost of Equity

A company’s cost of equity can be derived, among others, from Capital Asset Pricing Model outputs i.e. the risk-free rate plus the company’s risk premium (its beta or volatility relative to the market). CoE is derived by adding the risk-free rate to [beta x equity risk premium]. Companies whose return on equity is below the cost of equity will trade at discounts to book value in the stock market. Companies use cost of equity as a basis for determining if projects should be financed.