Cost Of Internal Equity Calculator

Cost Of Internal Equity Formula:

\[ r_e = \frac{D1}{P0} + g \]

Cost Of Internal Equity (r_e):

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1. What is the Cost Of Internal Equity?

The Cost Of Internal Equity represents the return required by a company's shareholders for investing in the company. It is calculated using the dividend discount model approach, which considers expected dividends, current stock price, and growth rate.

2. How Does the Calculator Work?

The calculator uses the Cost Of Internal Equity formula:

\[ r_e = \frac{D1}{P0} + g \]

Where:

$ r_e $ — Cost of internal equity (%)
$ D1 $ — Expected dividend per share next period ($)
$ P0 $ — Current stock price per share ($)
$ g $ — Expected growth rate of dividends (%)

Explanation: The formula calculates the required rate of return by adding the dividend yield (D1/P0) to the expected growth rate of dividends.

3. Importance of Cost Of Internal Equity Calculation

Details: Calculating the cost of internal equity is crucial for capital budgeting decisions, determining the company's weighted average cost of capital (WACC), and evaluating investment opportunities. It helps companies make informed decisions about financing and investment strategies.

4. Using the Calculator

Tips: Enter the expected dividend per share in dollars, current stock price in dollars, and expected growth rate as a percentage. All values must be valid (dividend > 0, price > 0, growth rate ≥ 0).

5. Frequently Asked Questions (FAQ)

Q1: Why is cost of internal equity important?
A: It helps companies determine the minimum return required to satisfy equity investors and make appropriate investment decisions.

Q2: What are typical cost of equity values?
A: Cost of equity typically ranges from 8% to 16% for most companies, depending on risk factors and market conditions.

Q3: How is growth rate (g) determined?
A: Growth rate can be based on historical dividend growth, analysts' forecasts, or the company's sustainable growth rate.

Q4: Are there limitations to this approach?
A: This model assumes constant dividend growth and may not be suitable for companies that don't pay dividends or have unstable dividend patterns.

Q5: How does cost of equity affect WACC?
A: Cost of equity is a key component of WACC, which is used as the discount rate for evaluating investment projects.