Duchess Corporation now wishes to calculate its cost of common stock equity, k s , by using the...

Duchess Corporation now wishes to calculate its cost of common stock equity, k_s, by using the capital asset pricing model. The firm’s investment advisers and its own analyses indicate that the risk-free rate, R_F, equals 7%; the firm’s beta, b, equals 1.5; and the market return, km, equals 11%. Substituting these values into Equation 11.6, the company estimates the cost of common stock equity, k_s, to be

The 13.0% cost of common stock equity represents the required return of investors in Duchess Corporation common stock. It is the same as that found by using the constant-growth valuation model.

Equation 11.6

 

Ks = R_F + [b x (k_m-R_F)] (11.6)