From investor’s point of view, the cost of capital is :
Yield of Capital Sacrifice
Cost of capital can be seen from two sides. For the firm it is the minimum rate of return it must earn on its investments to keep the market value of its shares unchanged. For the investor it is the return expected for parting with funds.
When an investor buys a firm's securities, he sacrifices the alternative return he could have earned elsewhere with the same money. The yield he expects as compensation for that sacrifice is the investor's view of the cost of capital; it is an opportunity cost.
Textbooks therefore describe the cost of capital, from the investor's point of view, as the yield on capital sacrificed (the measurement of the sacrifice made by the investor in capital formation).
The interest rate is only the cost of one source (debt), and market value or stock exchange value is the price of a security, not a rate of return demanded for giving up funds.
Hence, Yield of Capital Sacrifice.
Similar Questions
A company has issued 10 percent perpetual debt of ₹ 1 lac at 5 percent premium. If tax rate is 30 percent, then the cost of debt will be :
Indicate the cost of equity capital, based on capital asset pricing model, with the following information :
Beta coefficient – 1.40
Risk-free rate of interest – 9%
Expected Rate of Return on equity in the market – 16%
Assertion (A) : Weighted average cost of capital should be used as a hurdle rate for accepting or rejecting a capital budgeting proposal.
Reason (R) : It is because by financing in the proportions specified and accepting the project, yielding more than the weighted average required return, the firm is able to increase the market price of its stock.
Codes :
Match the items of the following two lists and suggest the correct code :
List – I List – II a. Realised yield method i. Cost of equity share capital b. Taxation ii. Cost of equity capital c. Cost of total capital employed iii. Cost of debt capital d. Dividend growth is a consideration iv. Weighted cost of capital Codes :
a b c d
Important Questions from Cost of Capital
A company has 10% perpetual debt of Rs. 1,00,000. The tax rate is 35%. Which one of the following is the after-tax cost of capital assuming that the debt is issued at 10% premium?
Company's current price of share is Rs. 60 and dividend per share is Rs. 4 . If its capitalisation rate is 12 percents. What is dividend growth rate?
X Ltd. forfeited 40 shares of Rs. 10 each and on which Rs. 4 per share were paid. If the forfeited shares reissued as Rs. 8 per share paid up, what is the minimum price the company must charge?
Which of the sources of finance has an implicit cost of capital?
Cost of Equity Share Capital is more than cost of Debt because :
