The Relationship between Implied Cost of Equity and Corporate Life Cycle Stages

Abstract

This study develops and tests the hypothesis that the implied cost of equity declines as a firm passes through the growth, maturity, and stagnant stages of its life. We use the methodology of Anthony and Ramesh (1992) for identifying corporate life cycle stages. Three different models are used to calculate the implied cost of equity: the Easton (2004) model, the Gordon and Gordon (1997) model, and the Ohlson and Juettner-Nauroth (2005) model. For testing our hypothesis, we use data of all non-financial firms listed on the Pakistan Stock Exchange from 1996 to 2012. The results lend strong support to our hypothesis in both the univariate and multiple regression analyses. The results show robustness to using different models of implied cost of equity and controlling for well-known determinants of the cost of equity such as beta, idiosyncratic risk, market-to-book ratio, firm size, and leverage. Our findings imply that firm's age can serve as a useful indicator for shareholders and creditors in evaluating riskiness and information asymmetry of the firm.

The Impact of Quality of Accounting Information on Cost of Capital: Insight from an Emerging Economy

“…The ICC model, due to its complexity, has not been applied to the majority of emerging markets. In Pakistan only Shah, Khan, and Afraz (2018) have applied ICC to determine the relationship between implied cost of equity and corporate life cycle. Bank on October 24th, 2020, due to regulatory reforms, Pakistan now ranks as one of the world's top ten businessclimate improvers and is 108th in the global ease of doing business index.…”