Expectations Investing

Estimating the cost of equity is more difficult because companies do

not explicitly agree to pay their common shareholders any particular

rate of return. Nonetheless, investors require an implicit rate of return,

or hurdle rate, to purchase or to hold a company’s shares.

Rational, risk-averse investors expect to earn a rate of return pro-

portionate with the risk they assume. Risk is, after all, the price that

investors pay for opportunity. What rate of return is necessary to induce

investors to buy a company’s shares? One logical starting place is the

how the market values stocks 29

TABLE 2-3 Market Values of Debt and Equity as a Percentage of

Total ...