Which formula represents Cost of Equity WITHOUT using CAPM?

Which formula represents Cost of Equity WITHOUT using CAPM?

• A. Dividends per Share / Share Price + Growth Rate of Dividends
• B. Risk-Free Rate + Market Risk Premium
• C. Net Income / Equity
• D. Dividends per Share * Share Price

Answer: (A)

Cost of equity can be estimated without using CAPM by applying the Gordon Growth Model, which assumes dividends grow at a constant rate and investors require a return equal to the dividend yield plus that growth. The formula ke = D1 / P0 + g captures this, where D1 is the next year's expected dividend, P0 is the current price, and g is the constant growth rate of dividends. In the option given, Dividends per Share divided by Share Price plus Growth Rate of Dividends matches ke = D1 / P0 + g. This directly reflects the dividend-based approach to cost of equity, not CAPM. Why the other ideas don’t fit: using risk-free rate plus market risk premium is the CAPM method, which the question aims to avoid. Net income divided by equity is return on equity, not cost of equity, and Dividends per Share times Share Price isn’t a standard measure for cost of equity.

Cost of equity can be estimated without using CAPM by applying the Gordon Growth Model, which assumes dividends grow at a constant rate and investors require a return equal to the dividend yield plus that growth. The formula ke = D1 / P0 + g captures this, where D1 is the next year's expected dividend, P0 is the current price, and g is the constant growth rate of dividends.

In the option given, Dividends per Share divided by Share Price plus Growth Rate of Dividends matches ke = D1 / P0 + g. This directly reflects the dividend-based approach to cost of equity, not CAPM.

Why the other ideas don’t fit: using risk-free rate plus market risk premium is the CAPM method, which the question aims to avoid. Net income divided by equity is return on equity, not cost of equity, and Dividends per Share times Share Price isn’t a standard measure for cost of equity.