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The cost of equity for private firms

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  • Abudy, Menachem
  • Benninga, Simon
  • Shust, Efrat

Abstract

The paper presents a method for calculating the cost of equity capital for the non-marketable securities of private firms and its difference from the cost of equity capital of an all else equal public firm (the private firm premium). The method is based on a theoretical framework that assumes the investor is undiversified due to her holdings in non-marketable securities. We implement the method for both unlevered and levered firms, and also consider the effect of taxes. The findings indicate that the private firm premium increases with the firm's asset risk, its leverage ratio, and the non-diversification of the private firm's owner, while taxes are negatively related to the private firm premium.

Suggested Citation

  • Abudy, Menachem & Benninga, Simon & Shust, Efrat, 2016. "The cost of equity for private firms," Journal of Corporate Finance, Elsevier, vol. 37(C), pages 431-443.
    • Handle: RePEc:eee:corfin:v:37:y:2016:i:c:p:431-443
    DOI: 10.1016/j.jcorpfin.2016.01.014
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    References listed on IDEAS

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    2. Lucie Rudolfová, 2018. "The dependence of the costs of borrowed interest-bearing capital on the chosen financial variables [Závislost nákladů úročeného cizího kapitálu na vybraných finančních ukazatelích]," Český finanční a účetní časopis, Prague University of Economics and Business, vol. 2018(4), pages 51-69.
    3. Wim Voordeckers & Maria J. Martinez-Romero & Alfonso A. Rojo-Ramirez, 2024. "Family governance practices and the minimum required rate of return in privately held family firms," International Entrepreneurship and Management Journal, Springer, vol. 20(2), pages 1245-1273, June.
    4. Gomes, António & João Jorge, Maria & Gonçalves Pereira, Ana, 2025. "The use of different cost of equity models when valuing SMEs: A case study," Small Business International Review, Asociación Española de Contabilidad y Administración de Empresas - AECA, vol. 9(1), pages 705-705, March.
    5. Lewis Liu, 2025. "Examining the cost of debt and bond spreads: public vs. private firms in China," Journal of Economics and Finance, Springer;Academy of Economics and Finance, vol. 49(1), pages 1-22, March.
    6. Tandra Mondal, 2025. "Assessing the Relationship between Price-Earnings (P/E) Ratio and the Financial Viability of Commercial Banks: Empirical Evidence from Bangladesh," International Journal of Research and Innovation in Social Science, International Journal of Research and Innovation in Social Science (IJRISS), vol. 9(1), pages 2003-2018, January.
    7. Altavilla, Carlo & Bochmann, Paul & De Ryck, Jeroen & Dumitru, Ana-Maria & Grodzicki, Maciej & Kick, Heinrich & Fernandes, Cecilia Melo & Mosthaf, Jonas & O’Donnell, Charles & Palligkinis, Spyros, 2021. "Measuring the cost of equity of euro area banks," Occasional Paper Series 254, European Central Bank.
    8. Michael Ewens & Joan Farre-Mensa, 2022. "Private or Public Equity? The Evolving Entrepreneurial Finance Landscape," Annual Review of Financial Economics, Annual Reviews, vol. 14(1), pages 271-293, November.
    9. Rasa Kanapickiene & Greta Keliuotyte-Staniuleniene & Deimante Teresiene, 2021. "Disclosure of Non-Current Tangible Assets Information in Private Sector Entities Financial Statements: The Case of Lithuania," Economies, MDPI, vol. 9(2), pages 1-64, May.

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    More about this item

    Keywords

    Non-marketability; Non-diversification; Cost of capital; Private firm valuation;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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