Question

One model for determining a firm’s cost of equity depicts the cost of equity as being the sum of _______ and _______.

Dividend yield, capital gains yield

The riskless rate, beta

Expected inflation, the riskless rate

Earnings yield, growth opportunities

Answer 1

Cost of Equity = [(price @ end of year 1 - price @ year 0) + Dividend] / price @ year 0

Cost of Equity = [(price @ end of year 1 - price @ year 0) / Price @ year 0] + [Dividend Yield / price @ year 0]

Capital gains yield = [(price @ end of year 1 - price @ year 0) / Price @ year 0]

Dividend Yield = [Dividend Yield / price @ year 0]

So, Cost of Equity can be re-written as = Capital gains yield + Dividend yield

So, Firm's cost of equity depicts the cost of equity as being the sum of Dividend yield and Capital gains yield.

Option '1' is correct