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cost of equity shares

What is cost of equity shares? What are the various ways to measure the cost of equity shares?

Cost of equity share is the part of cost of capital which allows the payment to only the equity shareholders. In this every shareholders get the shares for getting the return on the shares on which they are investing so much. From company's perspective the company must earn more than cost of equity capital in order to be unaffected by the market value of the shares of its.

To measure the cost of equity shares we have to follow the following ways:-

1) Dividend yield method or Price ratio method

In this the minimum rate of cost of equity shares will be equal to the “present value of future dividend per share with current price of a share”.

Cost of equity shares= Dividend per equity/ Market price< /STRONG>

For example if there is a company which issues shares of Rs. 200 each a premium of 10%. The company pays 20% dividend to equity shareholders for the past five years and expects to maintain the same in the future also. Compute the cost of equity capital. Will it be different if market price of equity share is Rs. 260?

The solution can be found out by our formula which says
Cost of equity shares= Dividend per equity/ Market price
= 20*100/210
= 9.52%

If the market price of equity share is Rs. 260.
=20* 100/260 = 7.69%

2) Dividend yield plus growth in dividend method

It is based on the theory that company is growing and its shares market value is also on growth. So, because of this shareholders are in need of simple dividend, so that company can provide the profit to them according to the growth.

To calculate this formula is as follows:-

Cost of equity share = Dividend per equity/Market Price + Rate of growth in dividends

3) Earning yield method

In this cost of equity capital is minimum and the earning of the company should be considered on market price of share. The formula for this is as follows:-

Cost of equity share = Earning per share / Market Price per share< /STRONG >

4) Realised yield method

This method removes the drawback which in the dividend yield method or earning yield method as both are based on future estimation of dividend or earning. In the economics there are many factors which can't be controlled and are very uncertain and if the risk is involved then the future planning can't be used and the decision related estimation return on investment can't be considered. It is based on actual earning which is earned on the amount of investment. The equity share capital is calculated as:-

Cost of equity share = Actual earning per share * 100

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