Which company is typically expected to have a higher cost of equity?

A company with a smaller market capitalization, such as one with $100 million, is generally expected to have a higher cost of equity compared to a larger firm with a market cap of $100 billion. This is primarily due to the increased risk perceived by investors when dealing with smaller companies.

Smaller companies often face higher volatility in their earnings and are usually seen as less stable compared to larger, established firms. Investors typically demand a higher return on their investment to compensate for this heightened risk. This return requirement is reflected in a higher cost of equity for smaller firms.

Moreover, larger companies benefit from diversification, more stable revenue streams, and established market positions, which contribute to a lower perceived risk. These factors play a significant role in determining the cost of equity, making it reasonable to conclude that the smaller company would have a higher cost of equity due to the risks associated with its size and market presence.

In contrast, the larger company is likely to enjoy economies of scale, broader access to capital markets, and more resilience against market fluctuations, leading to a lower required return. Thus, the market cap is an important factor in determining the expected cost of equity, influencing the risk-return profile of the company.