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Determinants of cost of equity: The case of Shariah-compliant Malaysian firms

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  • Shafaai, Shafizal
  • Masih, Mansur

Abstract

Firm-level analysis of the cost of equity is essential for many financial decision makings, capital structure choice, capital budgeting analysis, performance assessment and firm valuation. This study aims to shed some light on the determinants of cost of equity by analyzing Shariah compliant firms based in Malaysia. A list of potential determinants is identified and is divided into accounting-based and market-based variables. Pooled, fixed-effect, random-effect, and dynamic difference- and system-GMM panel models were employed to investigate determinants of cost of equity. The results show that for the full sample, the cost of equity is determined by debt-to-equity ratio (DE), earnings per share (EPS), total asset turnover ratio (TAT), firm size (SIZE) and stock liquidity (SL). Consistent with the literature, a significant positive relationship with cost of equity was found for DE and EPS, while a negative relationship with TAT and SIZE was exhibited. The study is also extended to seven subsectors, namely construction, consumer products, industrial products, plantation, properties, technology and services, to observe the sectoral effects on the cost of equity determinants. For the individual sectors, SIZE is significant for most of the sectors and is consistently negatively related to cost of equity. The results for other variables show that the determinants differ across different sectors, highlighting the importance of sectoral analysis. Firm based implication includes assisting firms to review their cost of equity estimates and optimizing capital allocation, while the government could fine-tune its policies based on the sectoral effects on the cost of equity determinants.

Suggested Citation

  • Shafaai, Shafizal & Masih, Mansur, 2013. "Determinants of cost of equity: The case of Shariah-compliant Malaysian firms," MPRA Paper 62364, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:62364
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    Cited by:

    1. Shahimi, Shahida & Hafizuddin-Syah, B.A.M & Fuad, Siti Hanisah, 2018. "The Effect of Sustainability Certification for Export on Operational Profitability of Malaysian Palm Oil Companies," Jurnal Ekonomi Malaysia, Faculty of Economics and Business, Universiti Kebangsaan Malaysia, vol. 52(2), pages 55-67.
    2. Shahida Shahimi & Hafizuddin-Syah B.A.M. & Hanisah S.F., 2023. "Sustainability Practices and Financial Profitability: The Case of the World’s Top 20 Crude Palm Oil Producers," SAGE Open, , vol. 13(4), pages 21582440231, October.
    3. Hooy, Chee-Wooi & Ali, Ruhani, 2017. "Does a Muslim CEO matter in Shariah-compliant companies? Evidence from Malaysia," Pacific-Basin Finance Journal, Elsevier, vol. 42(C), pages 126-141.
    4. Ahmed, Neveen & Farooq, Omar, 2018. "Does the degree of Shari’ah compliance affect the volatility? Evidence from the MENA region," Research in International Business and Finance, Elsevier, vol. 45(C), pages 150-157.

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    More about this item

    Keywords

    cost of equity determinants; panel techniques; shariah-compliant firms;
    All these keywords.

    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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