Korean Evidence on the Implied Cost of Equity

The purpose of this paper is to synthesize the empirical research regarding the estimation of the implied cost of equity and to provide the specific level of the cost of equity for Korean business practice. It attempts to estimate the cost of equity in the Korean stock market by reverse engineering, which deduces a firm’s cost of equity capital from the current stock price and from analyst forecasts. During the 2000 to 2005 period, the resulting estimates range from 14.8% (RCT) to 22.5% (RGM), and these estimates are highly correlated, thus supporting the applicability of the model to Korean firms. Equity risk premia, which are defined here as the costs of equity less the risk-free rates, range from 9.7% (RPCT) to 17.3% (RPGM). Further analysis provides evidence that certain analyst forecast properties have an impact on the estimates. Finally, this paper examines the sensitivity of the implied risk premium to the speed of incorporating infor- mation into the stock price and finds that price informativeness substantially affects the implied risk premium.