On The Effectiveness Of Implied Cost Of Equity Capital

In recent years, implied cost of equity capital has become a hotspot in the accounting and even financial field, implied cost of equity capital is the discount rate that equals the asset value with the discounted value of the expected future cash flow. From the perspective of investors, it is the required rate of return that investors requires for. Only when the expected rate of return exceeds the required one (implied cost of equity capital) will the investors choose to conduct the investment. Therefore cost of equity capital has always been an important benchmark that the managers as well as the investors attach importance to. An accurate estimation of the implied cost of equity capital can not only help investors make the right investment decision, but also provides a scientific basis for the effective corporate governance, reputation estimation and the information disclosure, etc. For this reason, study the implied cost of equity capital is of great necessity.However, due to its reliance on the accuracy of analysts’forecast, scientific estimation of implied cost of equity capital has always been a difficult point to related empirical studies, which greatly restricts its development. Meanwhile, as the calculation results varies in different implied cost of equity capital models, managers find it difficult to estimate the financing costs. This paper, after a brief review of the present researches, classifies the seven implied cost of equity capital models(GGM、GLS、CT、OJ、MPEG、 PEG and AGR) into three classes:Gordon Dividend Growth Model, Residual Income Valuation Model and Abnormal Growth in Earnings Valuation Model, and then applied the three classes of models in implied cost of equity capital estimation. Before using the analysts’ forecasts in estimation, we removes the ex-ante optimistic deviation from analysts’ forecast, then we use the de-biased analysts’ forecast in estimation, and analyzed the estimation results so as to find out the best model. Results has shown that GLS model and GGM model performed better, especially GLS model fits Chinese capital market the best. Research results provides a reference for rational investment and a decision basis for managers to choose the best fitted implied cost of equity capital model, estimate financing costs, and make the right financing decision.