The Cost of Equity is always higher than Cost of Debt. Note that we have used the word ALWAYS not USUALLY. This is because for any given company, equity will always be riskier than debt, and hence costlier. Risk is the main reason why equity is more expensive – the equity investor faces an uncertainty of dividend and repayment of capital. Therefore equities are always considered as a higher risk source of funds.
A secondary reason is taxes. Interest is tax deductible.
But what if a company keeps on taking debt? Won’t that increase the Cost of Debt? Yes, it will. But Cost of Equity will always rise beyond this Cost of Debt. This is because if the expected return on debt of a company is higher than equity, a rational investor will immediately sell the equity and buy debt of the same company.
Note: The dividends declared have absolutely no relevance to your cost of equity. Cost of Equity is calculated using CAPM
