



































Contents


Australian Finance & Banking Review 

Vol. 1, No. 1; 2017 

Published by Centre for Research on Islamic Banking & Finance and Business 

 

41 
 

 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: 

A Multi-Dimensional Analysis of Quoted Firms in Nigeria 
 

Lucky Anyike Lucky1 

 

 

1Department of Banking and Finance, Rivers State University, Nigeria 

Correspondence:Department of Banking and Finance, Rivers State University, Nkpolu Orowurokwo, Port 

Harcourt, Rivers State, Nigeria.Email: lucky.anyike@yahoo.com 

 

 

Received: October 06, 2017     Accepted: October 11, 2017      Online Published: October 14, 2017 

 

Abstract 

This study examined cost of capital and corporate earning of quoted firms in Nigeria. The objective was to 

examine the effect of short term, medium term and long term cost of capital on earnings per share. Cross 

sectional data was sourced from financial statement of twenty quoted firms from 2011-2016. Earnings per share 

was proxy for dependent variable while cost of trade  credit, cost of short term bank loans, cost of commercial 

paper, cost of banker acceptance, cost of line of credit, cost of revolving credit, cost of hire purchase, cost of 

operating lease, cost of debt, cost of preference share and cost of equity are proxy for independent variables. 

After cross examination of the validity of the pooled effect, fixed effect and the random effect, the study accepts 

the fixed and random   effect models. Findings reveals that cost of short term and cost of long term have 

significant relationship with corporate earning while cost of medium term have no significant effect on 

corporate earnings. It recommends the need for corporate strategies that will reduce cost of capital. 

 

Keywords: Cost of Capital, Corporate Earnings, Quoted Firms. 

 

1. Introduction 

Financing decision of any economic or financial unit, whether a private household, a business firm or 

government, consists of planning for, generation, and organizing of funds needed for investment and other 

activities. The two main sources of capital are the equity and debt which both needs to be remunerated at their 

own cost of capital.  Thus, a discussion on financing decisions must include analysis of the various sources 

through which the units can raise funds, and the associated costs, which is call the cost of capital (Ezirim, 2005). 

A necessary angle to financing decision would include the determination of the optimal proportions of each 

form to be utilized by the concerned economic unit, noting the financial implications. The finance management 

function is a critical success factor and determines the earnings and survival of firms. These functions include 

the dividend and the financing decision. While the dividend decision determines the proportion of earnings to be 

distributed to shareholders and proportion to retain, the financing decision determine the optimal combination of 

debt and equity to maximize shareholders wealth. The cost of equity can be defined as the return expected on a 

firm’s common stock in the capital market. It represents the composition demanded by shareholders for 

providing capital and assuming the risk of waiting for this return. This implies that cost of equity reflects the 

opportunity cost of investigating in a firm’s stock as opposed to potential investments with similar risks. Cost of 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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42 
 

debt refers to cost of external source of fund such as cost of long term debt and cost of short term borrowings.  

Determining optimal cost of capital constitute one of the key finance management functions for financing 

corporate growth of listed organizations. The central normative preposition of the micro theory of capital is that 

firms should adjust its capital stock until the marginal rate of return on further investment is equal to the cost of 

capital (Jonathan & Lorie, 2007). Under condition of perfect market, certainty which is the basic assumption for 

the classical theory, develop the concept of capital which means the market rate of interest. Due to the 

increasing global mobility and flexibility of capital, companies needs to ensure that they offer the required 

return since the risk of losing their investors which might more costly to the firms.  

The firm’s cost of capital can be used for discounting the cash flows of the investment projects which have risk 

equivalent to the average risk of the firm. It is needed for investment and financing decisions, business 

valuations, capital budgeting and determining recoverable amount for improvement test (Brav, 2009). Cost of 

capital is used as a discount rate or bench mark return in financing corporate growth. It is used to discount rate 

for company valuation with the help of the discount cash flow techniques such as the Net Present Value, Internal 

Rate of Return (Dempsey, 2013). In International Financial Reporting Standard (IFRS), cost of capital is 

relevant for impairment test as stated by International Accounting Standard (IAS 36). There are limited studies 

of citable significant that dealt with problem of cost of capital and corporate earnings in Nigeria. Therefore this 

study intends to examine the effect of cost of capital on corporate earnings of quoted firms in Nigeria. Apart 

from section one above, section two focuses on both theoretical and empirical review of related literature, 

section three deals with the research methodology. Section four deals with the data analysis and presentation and 

the fifth section contain the conclusion and recommendations from the findings. 

2. Literature Review 

A firm raises funds from various sources, which are called the components of capital. Different sources of fund or 

the components of capital have different costs. The cost of raising funds through issuing equity shares is different 

from that of raising funds through issuing preference shares. The cost of each source is the specific cost of that 

source, the average of which gives the overall cost for acquiring capital. The firm invests the funds in various 

assets. So it should earn returns that are higher than the cost of raising the funds. In this sense the minimum return 

a firm earns must be equal to the cost of raising the fund. The cost of capital may be viewed from two viewpoints 

acquisition of funds and application of funds. From the viewpoint of acquisition of funds, it is the borrowing rate 

that a firm will try to minimize. On the other hand from the viewpoint of application of funds, it is the required rate 

of return that a firm tries to achieve. The cost of capital is the average rate of return required by the investors who 

provide long-term funds (Ezirim, 2005). In other words, cost of capital refers to the minimum rate of return a firm 

must earn on its investment so that the market value of company’s equity shareholders does not fall. 

Estimating the Cost of Equity Capital 

Estimating the cost of equity involves estimating the expected return on a firm’s common stock. The cost of 

equity includes a risk premium to compensate shareholders for holding a risky equity security rather than a 

risk-free security: 

   ifi
rprECOE r                                        (1) 

Where  

iCOE                =   Firm i’s cost of equity, 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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 irE   =   The expected future return on firm i’s equity, where returns include    

  Capital gains and dividends, 

fr   =   The risk-free rate, and 

irp   =   The equity risk premium for holding firm i’s stock. 

Determining the cost of equity using the implied approach is analogous to determining the nominal yield to 

maturity on a bond. The implied cost of equity is the discount rate that sets the current stock price equal to the 

present value of expected future dividends per share. The relation between the current stock price (P0), the cost 

of equity (r), and future expected dividends per share (d1, d2, d3 …) is represented by the dividend discount 

model (DDM). 

3

3

2

21

)1()1()1( r

d

r

d

r

d
Po










    

   

(2) 

The simplest form of the DDM, the Gordon Dividend Growth Model, assumes a constant perpetual rate of 

growth (g) in expected dividends per share. With this assumption, dividends are an infinite geometric series, and 

the cost of equity can be written as a function of the dividend yield plus the constant growth rate: 

g
P

d
r

o

 1
                  (3) 

Residual income valuation (RIV) models address the difficulties in estimating a long term growth rate by 

utilizing accounting information (Lee, Ng and Swaminathan, 2004). These models equate the current share price 

to the sum of two components: (1) the present value of expected dividends per share over a short or 

medium-term horizon (N); and (2) a discounted terminal value, which is the present value of the expected share 

price at the end of the forecast period, assuming that dividends then grow at a constant rate (gL) in perpetuity: 

N

N
N

t
t

t

o
rgLr

d

r

d
P

)1)(()1(

1

1 









             (4) 

 

RIV models assume clean surplus accounting which requires that earnings are fully allocated between dividends 

and retained earnings; whatever portion of earnings that is not paid out in dividends is added to book value of 

equity. Hence, book value per share (bvt) evolves according to the following equation: 

111   tttt debvbv               (5) 

and as roet   =   return on book equity 

=  et / bvt-1 

then bvt+1 )1(1(
1

1

1





 
t

t

tt
e

d
roebv              (6) 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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Assuming that return on book equity and the dividend payout ratio after time N+1 remain constant, the 

following constraint is imposed on the long-term growth rate of dividends per share (gL) in Equation (4) 

)1(
1

1

1





 
N

N

NL
e

d
roeg                (7) 

Claus and Thomas (2001) implement the RIV model using a four-year forecasting horizon (N=4) and set the 

growth rate (gL) equal to the expected inflation rate (pe) in order to calculate a nominal cost of equity.8 

Dividends per share in year five are backed out from Equation (6) as follows: 

55

1()1(
roe

es
roe

g
ed eL

ss


              (8) 

So the cost of equity in the Claus and Thomas (2001) model is the value of r that solves the following equation: 

4

5
4

1 )1)(()1( rr

d

r

d
P

et
t

t
o







 
             (9) 

If dividends are all positive and the cost of equity is greater than the expected inflation rate, there is only one 

value of r that will solve this equation. 

Another class of implied models assumes that the change in abnormal earnings from year to year grows at a 

constant rate into perpetuity (Gode and Mohanram, 2003). This is similar to assuming that the forecasted change 

in dividends grows at a constant rate, if the change in dividends is calculated as: 

)()( 111212 degeedd L               (10) 

In the Ohlson and Juettner-Nauroth (2003) version, a closed form solution for the cost of equity can be backed 

out from the following relation between prices, next year’s earnings per share estimate and next year’s expected 

dividends per share: 

)(

)(11

L

Ls

L

o
grr

gge

gr

d
P







               (11) 

Where   

sg  =  Short-term dividends per share growth rate 

=    112 / eee    

Lg   = A long-term dividends per share growth rate  

Easton’s (2003) model, called the Modified-PEG ratio model,10 is just a special case of the Ohlson and 

Juettner-Nauroth model, where the growth rate in the change in dividends is set equal to zero (gL = 0) so that 

dividends grow by the same dollar amount every year into perpetuity. The current stock price is related to the 

cost of equity, the next two year’s forecasted earnings, as well as the next year’s dividend: 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

Firms in Nigeria               

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2

1 1

r

ge

r

d
P

s

o                   (12) 

Cost of Debt 

When companies borrow funds from outside or take debt from financial institutions or other resources the 

interest paid on that amount is called cost of debt. The cost of debt is computed by taking the rate on a risk free 

bound whose duration matches the term structure of the corporate debt, then adding a default premium. This 

default premium will rise as the amount of debt increases (since, all other things being equal, the risk rises as the 

cost of debt rises). Since in most cases debt expense is a deductible, the cost of debt is computed as an after tax 

cost to make it comparable with the cost of equity (earnings are taxed as well). Thus, for profitable firms, debt is 

discounted by the tax rate. The formula can be written as: 

(Rf + credit risk rate)(1 – T) 

Where T is the corporate tax rate and Rf is the risk rate. 

Lenders expect payments of their loans both on the due date and at the contracted amount. They face the risk 

that payments are made too late and in for a lesser amount, including the risk of a total loss of capital and 

interest. To protect themselves against such contingencies lenders restrict their loans to certain amounts, require 

security and adjust their interest rates to compensate for the known risks; these adjustments are usually spreads 

over the risk-free rate of return reflecting the creditworthiness of the borrowers. The risk-free rate is that an asset 

would yield without any default, timing or exchange rate risk; as such, it is a non-observable theoretical 

construct. It is usually measured by the rates of return on government securities, which have the lowest risk, in 

any particular currency.  

Sources and Cost of Short Term Funds 

Sources of funds can be perceived in the light of their time duration, hence we have long-term, medium-term, 

and short-term sources of finance. It is conventional to look at short-term sources as those avenues with 

maturities of not more than one year. Thus, short-term capital constitutes funds obtained for one year or less 

(Ezirim, 2005). They are mostly employed for working capital requirements. Examples include overdraft 

advances from banks, credit purchases, deposits or advances from customers, bills receivable, and bills of 

exchange.  

Medium or intermediate funds are such that are usually arranged for periods longer than one year but less than 

ten years. They include bank loans and overdrafts, hire purchase and installment credits arrangements, mortgage 

loans, equipment leasing, sale and lease back contracts. Long term sources involves those avenues for raising 

the long term/permanent capital attracts maturity dates of ten years more. Examples of long term or permanent 

capital include ordinary shares, preference share capital and debentures. Shares and debentures are hereby 

referred to as permanent capital because the funds supplied to the economic concerned units, in this case the 

firm, by investors when they buy the shares or debentures are not usually returnable (at least in the near future) 

to them except in the event of liquidation(Ezirim, 2005). However, redeemable preference shares and 

redeemable debentures are distinguished from permanent capital since they are usually returnable and are 

therefore described merely as long-term capital. 

Capital generation can also be viewed from the angle of intra-ultra considerations. In other words, funds can be 

generated from internal sources and /or from external sources. Internally generated capital includes funds raised 

from within the firm itself. Internal sources are exemplified by provisions set aside out of profits, reserves and 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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retained earnings (Ezirim, 2005). With respect to ultra considerations, funds are raised externally by way of 

permanent capital, long-term redeemable preferences shares and debentures, medium or intermediate capital, 

and short-term funds.  

Cost of Short-Term Capital 

The calculations of cost of short-term involves the manipulations in simple interest, simple discounts, compound 

interest and even annuities with relevant adjustments as demanded by each case in question.  

 pit             (13) 

Where I is the interest amount, P is the principal, i is the nominal rate of interest, and t is the time. To find the 

nominal rate of interest, we make i the subject of the formula to have: 

 

tP

I
i                             (14) 

Thus, the interest rate per time period, I, equal to the interest amount in Naira divided by the product of principal 

and time which is actually the time here is the number of time periods (Ezirim, 2005). The above expression can 

be rearranged as follows: 

 
tP

I
i

1
  Where t = n              (15)  

Thus, the interest rate I, equal to the fractional interest cost per period I/P, times divided by the owner of time 

periods, 1/n. 

To find the annual financing cost (AFC) for short-term financing sources, we use variation of the expression (15) 

above: 

AFC = 
)(

365cos

daysmaturityfundsUsable

feestsInterest



        (16) 

The above expression presupposes that short term funding source may involve fees in addition to the interest 

element. Equally, the term usable funds are used in place of principal or present value because some funds from 

some short term sources may not be available for the academic unit to use. The term, 365/maturity (days), 

converts the financing source to the annual rate (Ezirim, 2005). It is of note that the annual financing cost (AFC) 

is only an approximation of the true (effective) annual percentage rate (EAR), or (APR), of a loan. The AFC 

expressed above in (16) does not consider compounding and slightly understates the true APR. More so, the 

AFC as above is normally used for financing sources of 1 year or less. Putting these considerations into focus, 

the annual percentage rate (APR) or effective annual rate (EAR) for short-term financing is given by 

 1
cos

1 






 


m

fundsUsable

feestsInterest
APR            (17) 

When a business experiences difficulty in connection with liquid resources, it may be able to improve its 

situation by resorting to the use of trade credit facilities. 

Cost of Trade Credit 

Trade credit as a source of indirect financing has gained wider recognition, acceptability and sophisticated over 

time in the Nigerian investment hemisphere (Ezirim, 2005). If R limited buys raw materials worth N36 million 



 

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from its major suppliers each year, with a 5% discount the net purchases are given by 

 
DPDC

N

d

d
APC







1
              (18) 

Where, 

 APC  =  Approximate (annual) Percentage Cost 

 d = Discount rate 

 N = Number of days in a year 

 DC = Days of credit is outstanding 

 DP = Discount period 

Bank loans and Overdrafts 

These are short-term loans and overdrafts generally repayable within the period of one year. When extra cash is 

needed for working capital purposes, banks and overdrafts provide necessary sources of cash. Bank loans are 

compared with overdrafts here in the sense that in the case of former, interest will be paid for the full period of 

the loan, whereas in the case of the latter, interest is calculated on a day-to-day basis. In Nigeria, short-term 

bank loans and overdrafts constitute more than one half of the naira amounts of the total loans made by banks. 

In addition to commercial banks, merchant banks, finance house and even mortgage finance institutions finance 

short-term business needs. On a general note, short-term loans are employed to finance changes in working 

capital and temporary financing of fixed assets pending when agreements are reached for longer commitments. 

It is a norm for financial institutions to renew at maturity short-term loans and overdrafts especially when the 

customer financial condition and profitability is continually guaranteed (Ezirim, 2005). A number of types of 

short-term loans include bridge loans, take out commitments, receivables financing, unsecured business loans, 

and secured business loans. 

Cost of Bank Loans 

The cost of bank loans tends to have a linear relationship with the type of borrower, the riskiness of a given 

proposal and the prevailing state of the economy. Given a regime of interest rate deregulation rates are usually 

determined by the forces of demand and supply in the light of the factors identified above as determinants of 

interest rates (Ezirim, 2005). Thus, a high credit risk attracts high interest charges while a low or prime risk 

commands reasonably lower rates.  

The effective annual rate of interest (costs of funds) is determined using the formula: 

   
)(Pr

)(int

Pincipal

Ierest
iERs              (19) 

Where ERs is the effective rate of simple interest 

Thus, suppose the loan is for 180 days, the effective rate can be determined using the expression: 

  11 









m

m

r
i                (20) 

Where I = effective rate, r = nominal rate and m = no. of conversion intervals 

Discount Interest 

A discount interest loan is exemplified by one in which the bank deducts the interest in advance or upfront. 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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 ERd = 
)(Re

)(

ARcievedAmount

IInterest
            (21) 

 
erestFcaevalue

Interest
d

int
               (22) 

 Alternatively we use the expression below 

 
r

r
dERd




1

%
                (23) 

 1
/(int

/
1

2













merestfacevalue

mInterest
ERD           (24) 

If however we want to know how much the borrower would actually borrow if it requires a loan of we can use 

the formula: 

 
r

FN
FValueFace




1
)(               (25) 

Where FN = Funds needed and r = nominal rate in fraction. Thus, 

 
2/)(

int

ivedAmountrece

erest
AERa               (26) 

 

t

r
RAPV 












1

1
              (27) 

   11 
m

a rER  

Commercial Papers 

A commercial paper is a short term debt instrument in the form of negotiable, bearer promissory notes issued for 

set maturities by reputable companies with the intent of borrowing short-term funds from interested public. 

Perhaps, the only collateral required for this type of facility is the good financial standing and repute of the firm 

attempting to raise funds; no specific security is required to back up the notes. Most commercial papers are 

issued for between 30 and 90 days, though issues of 180 and 270 days are obtainable. In Nigeria, commercial 

papers are not only issued by non-bank firms of repute, but also by bank themselves. In view of its unsecured 

nature, commercial papers are highly risky, though some are secured by the inventories of issuing companies. 

When commercial papers carry the guarantee of a bank to repay the sum due in event of a default, it is in all 

respects like a bankers’ acceptance (Ezirim, 2005). 

Cost of Commercial Paper 

Commercial papers are sold at a discount from its par, or face, value. The interest received by the buyer or paid 

by the issuer of commercial paper is determined by the size of the discount and the length of time to maturity. 

The actual interest earned by the purchaser is obtained using similar procedure as we used in computing simple 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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discounts. 

 Prcp% = 
1

100




P

PFV
              (28) 

Where: 

Prcp% = the periodic rate of interest paid on commercial paper 

FV     = the face value of the paper 

P       = the purchase price of papers. 

AFC = 
)(

365cosint

daysmaturitysUsablefund

feeplacementtserest



      (29) 

Where: 

Usable funds = Face amount – [interest costs = placement fee] 

Thus, denoting interest costs as I; placement fee as Pf, Face value or amount as fv; and  

Maturity (days) as MD; the above expression changes to: 

 AFC = 
MDPIFv

PI

f

f 365

)(





             (30) 

 11 









m

cp

cp
m

K
EAR               (31) 

Where: 

EARcp = effective annual rate on commercial paper 

M  = the compounding frequency which we defined as conversion intervals. 

APRcp = the normal annual rate 

Sources and Cost of Medium Term Funds 

Commercial banks and more especially merchant banks have been known to extend credit facilities in form of 

loans for periods more than one year. These facilities with maturities in excess of one year are known as term 

loans. This has constituted a worthwhile avenue for funding business and industrial concerns, the world over. 

Even in certain cases overdraft facilities can be renewed a number of times of the extent that when summed or 

put together their durations would be more than one year (Ezirim, 2005). A number of reasons have accounted 

for the development of term lending by banks and other financial institutions in Nigeria. First, the maturity 

patterns of term loans are easily amenable to the time frame attending to the borrowers needs. Thus, they can be 

manipulated to suit the borrowers’ needs. Second, high-valued firms that can off-set the payment for fixed assets 

in a relatively short time may find it less advantageous to use equity or long term borrowing. In which case, 

medium-term loans become the preferred alternative. Third, benefits accruable to a company from the use of 

financial leverage can still be derived while using term borrowing without having to subject the firm to the 

problems associated with recalling bonds, debentures, or preferred stocks when no apparent need exists for the 

funds which were earlier generated using these means. Lastly, this type of loan is usually repaid according to 

earlier agreed upon schedule as reflected in the cash flow projections. This removes the difficulty of having to 

pay in a lump sum as may be required by a renewable short-term loan (Ezirim, 2005).  



 

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Lines of Credit 

An economic agent that needs funds from time to time throughout the year for different or specific purposes 

may decide to approach a bank negotiates a line of credit. The line of credit represents an agreement that permits 

the economic unit to borrow funds up to an agreed limit at any time during the life of the agreement. The 

obvious benefits of a line of credit, compared with single loan, are that the economic unit does not have to 

renegotiate with the bank at every time funds are needed. Drawdown can be made at the shortest possible notice. 

It also enables the economic agent to plan for its future short-term financing requirements without having to 

know exactly how much it would have to borrow each month. Usually, a line of credit is agreed upon for a 

period of 1 year, with renewals being subject to re-negotiation each year. Banks usually takes into consideration 

such factors as the customers’ personal characteristics-character, capacity, and capital-in determining the size of 

the credit line. The overall credit-worthiness of the unit is important in all credit considerations. For business 

customers, the need to produce a projected cash flow statement alongside the balance sheet and income 

statement cannot be overstressed (Ezirim, 2005). 

Cost Implications of Lines of Credit 

The interest rate chargeable on a line of credit is usually determined by adding to the prime-lending rate, a 

premium based on the borrower’s credit-worthiness.  

  I = Pit 

  I = P x i x t 

Revolving Credit Agreement 

For a revolving credit agreement, usually called a revolver, the bank is committed to making loans to an 

economic unit up to the agreed credit limit whether or not the financial position of the economic unit is 

deteriorating or whether or not the bank lacks sufficient lonable funds to meet the loan requirements (Ezirim, 

2005).  

Cost of Revolving Credit Agreements 

The annual financing cost of revolvers involves more rigorous manipulations than single-loan or line of credit 

arrangements.  

 AFC = 
)(

365cosint

daysmaturitysUsablefund

feecommitmenttserest



      (32) 

 AFC = 
)(

365cosint

daysmaturitysUsablefund

feecommitmenttserest



      (33) 

Hire Purchase 

This is a useful method of indirect finance. By this method, an economic unit can obtain fixed assets by mere 

payment of the initial deposit, called an earnest sum or down payment, and thereafter pays agreed installments. 

The hire purchase arrangement is with interest and at times attracts service charges. There is no need to have one 

form of collateral or the other before entering into the agreement; as the assets, once in use, will normally 

generate enough profit to discharge agreed installments. Despite the somewhat glaring advantages of this 

indirect method of financing, hire purchase can attract a very high cost of financing, in the form of high rate of 

interest. Also, it calls for a very short period for which assets may be obtained and too many of such agreements 

can drain the profits of the company substantially (Ezirim, 2005). 



 

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Cost of Hire Purchase 

In hire purchase contracts, the buyer usually makes an initial deposit called down payment, or more traditionally, 

an earnest payment and further agrees to pay off the remainder in regular (or otherwise) installments. The initial 

down payment is a type of guarantee. Since the total payment is not completed on the day of purchase, a 

carrying cost (an extra charge for the privilege of deferred partial payments) is often included by the seller 

spreading alongside the installments. This carrying cost is a type of interest a price for using the installmental 

buying facility. Thus the total amount (Sn) paid by the buyer will represent the down payment (So) plus the 

series of the installmental payments which includes the carrying charges (R1 + R2 + …. + Rn). 

 

 Sn = So + (R1 + R2 + …. + Rn)              (34) 

Where Sn = total amount paid by purchaser 

 So = down payment 

 R = partial payments plus interest made on installments. 

Direct Ratio Formula 

 
)1()1(3

6




nInB

mI
r

              (35)

 

Factoring Accounts Receivables 

Account receivables’ factoring concerns itself with the outright sale of the economic unit’s receivables to a 

financial institution or consultant referred to as a factor. When this is done, and subsequent transfer made, the 

receivables no longer appears in the books (statement of affair) of the economic unit, say, a firm. The process of 

factoring takes off with a contract that clearly specifies the modalities for the agreement including terms of 

purchase and advance of funds, generated in the factoring exercise. The firm selling the receivables makes 

available the accounts to the factor for credit checking, appraisal an approval. Should the factor agree to take 

over the debts; the firm would notify its debtors of the sale of their accounts and instruct them to pay the factor 

directly. In this type of arrangement therefore, a firm may sell its book debts (at a discount, to allow a profit for 

the buyer). The reason for this may stem from the need to avoid tying down funds, needed for other operations, 

in the credit it allows to the customers (Ezirim, 2005). 

Cost of Factoring Receivables 

In factoring receivables, there is usually a service fee that is between 1% to 3% of the factored receivable. 

Annual Financing Cost before considering cost savings and bad-debt losses 

 

AFC = 
)(

365cos

maturityDaysfundsUsable

feestsInterest




          (36)

 

AFC = 
maturitytoDayssUsablefund

savingstTotalCostsInterest 365cos



       (37) 

Lease Financing 

Equipment leasing involves entering into an agreement with a bank, a no-bank financial institution or even the 



 

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manufacturer, for the use of a particular fixed asset at an agreed rental. A lease has been defined as a contract 

whereby, over the term of the lease, the lessor (owner) allows the lessee (user) the use of an asset in exchange 

for a promise by the latter to pay a series of lease payments called rentals. The workings of a typical lease 

arrangement are simple. First, the lessee selects the equipment and the dealer or the manufacturer from whom 

the equipment will be purchased. The lessee negotiates such aspect of the transaction as the price, specifications, 

warranties, and delivery date. He approaches the lessor, who in most cases is a bank or other financial institution, 

which buys the equipment from the dealer or manufacturer and leases it to the lessee for terms ranging from two 

to ten years or longer, depending on the nature of the equipment.  

The appropriate discount factor would be the lessor’s weighted cost of capital, which is equal to the applicable 

rate on debt instruments in the same risk class (Ezirim, 2005). Thus, the equilibrium lease-rental payment (Lrp) 

is given by: 

 NPV Lessor = Co +
 

n

t

tt

K

TDepTL

1 )1(

)1(
           (38) 

Where: 

 C = cost of the asset 

 n = economic and tax depreciation life of asset 

 k = Lessor’s cost of capital 

From the Perspective of the Lessee 

The lessee can make use of the leased asset through leasing or debt financing as earlier stated. This of course 

implies a simplistic assumption that the two options are perfect substitutes (Ezirim, 2005). Invariable for a given 

amount of extra tax shield offered by lease, there is a proportionate or equal amount reduced in the debt tax 

shield. The net present value of the lease is given by: 

NPVL = Co – PV [Lt(1-T)] – PV (TDept)] 

The relevant discount rate is the after-tax cost of debt, since both lease payments and the foregone depreciation 

tax shields are risk-free and tax deductible (Ezirim, 2005). This guarantees the cost of debt to be equal to the 

cost implicit in the leasing arrangement.  

 NPV lesser = 0 = C + 
 




 n

t
t

t
n

t
t

t

k

DepT

k

TL

11 )1(

)(

)1(

)1(
         (39) 

Applying the annuity principle as in chapter 6, we have: 

NPV lessor = 0 – C + Lt (1-T) (PVIFA; K, n) + DTSt (PVIFA, k, n)         (40) 

 

Cost of leasing  = 
 




9

1 ])1(1[

)1(

t b

t

KT

TL
           (41) 

Sources and Cost of Long Term Funds 

The permanent long-term funds available to the firm constitute the main components of its capital structure. Put 

together, they represent the firm’s capital. On the part of individual households, they are veritable source of 

investments. The cost of capital for a firm is the charge for the use of funds from various sources. It represents 

the hurdle or cut off rate above which investment activities of financial agents must show a return in order to 



 

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lend justification for their being carried out. What the efficient financial manager does is to ensure that this cost 

is reduced to the barest possible minimum so as to help maximize the owners’ wealth. The cost of capital of a 

typical business firm can be classified into average cost of capital and marginal cost of capital.  

Debentures and Bonds 

Long term straight debt capital of business firms is basically defined in terms of debentures and bonds. A 

debenture has been described as a multiple loan of a company since it is contributed by large numbers of people 

and not by one person. The holders of debenture do not have claims on specific assets of the company (in most 

cases) but on the general credit-worthiness of the issuer. Being defined as above, a debenture becomes an 

unsecured bond, otherwise called a debenture bond. In contrast a secured bond or a mortgage bond is one, which 

possesses right of claims on specific assets of the issuer to real estate mentioned in the case of mortgage bonds 

(Ezirim, 2005).  

Cost of Debt 

Debt is used to represent a bond, debenture or loan stock. The cost of debt (Kd) is the rate of interest specified at 

the time of the bond issue. The before tax cost of a bond issued at face value and redeemable after a designated 

future date, is the coupon or nominal rate of interest (Ezirim, 2005). Thus, if a debt is issued at par value 

P

I
Kd                     (42) 

Where 

 Kd = Before tax cost of debt 

 I = Interest amount 

 P = Principal amount 

20

2020

3

3

2

21

)1(
......

)1()1()1( dddd K

PI

K

I

K

I

K

I
p











         (43) 

This is seen in view of the fact that from example 1, 

n

d

n

t d

t
o

K

P

K

X
P

)1()1(1 







              (44) 

Where 

 Po = Principal or present value of debt 

 X = the regular interest payment or cash outflow to bond holders 

 Pn = Terminal amount to be paid to the bond holders 

 Kd = Cost of debt 

 t = time periods over the years till n maturity date; here final t = n 

 

Cost of Debt Issued at a Premium or Discount 

In situations where the given debt instrument is issued at a premium or discount, the cost of debt will differ from 

the coupon rate of interest. Considerations are also given when the resulting premium or discount is amortized 

for tax purpose, over a given period (Ezirim, 2005). On the stead, the expression (44) below would be the best 

formula to apply in such an instance. Thus, 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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)(
2

1

)](
1

1)[1(

PF

PF
n

t

Kd





             (45) 

Where, 

 F = face value of debt 

 P = price at which the debt is sold 

 N = the number of years to maturity 

 I = fixed interest charge. 

Cost of Perpetual Debt 

When a company’s debt is issued in perpetuity, its cost of debt, in that regard, can be calculated by dividing the 

fixed interest charges I by the price at which the debt is sold, after adjusting for the effect of tax. Thus, the cost 

of a perpetual debt is given by 

After-tax cost of debt (Kd) = )1(
1

t
p

        (46) 

  

Where, I, p and t are as defined earlier. 

Notice that this perpetuality can arise in two ways: 

(a) It may issue perpetual bonds from the onset, in which case this becomes part of the permanent capital 

(a case of issue of irredeemable bonds). 

(b) It may maintain a policy of retaining a constant amount of bonds in its capital portfolio.  

Thus, when once old bonds are redeemed, replacement would have been made aforetime by new bonds. 

Preference Shares Capital 

Preference shares are distinguished from ordinary shares at some inherent preferential right the former possess 

over the equity holders in terms of profits distribution during the life of a company; and over surplus asset in the 

event of winding up. In other words, they receive preferred dividend as well as priority claims over ordinary 

shareholders. The dividend paid to preference shareholders comes out of the profits after tax (PAT) of the 

company. This has been advanced as one of the reasons it attract higher cost than borrowed funds. Preferred 

stock, as it is sometimes called, possess some features of ordinary shares, especially in relation to the theoretical 

foundations that they are not suppose to be redeem or have maturities, having the element of perpetuity 

discussion in our introduction to mathematic of finance. Like ordinary shares dividends, preferred dividend 

comes from the PAT of the firm. Postponement or non payment of dividends on both shares would not 

necessarily amount to the company being liquidated on grounds of insolvency (Ezirim, 2005). On the other hand, 

they have some features of debentures or bonds especially when we consider that their dividends are limited as 

is the case with bondholders who receive fixed interest. Preferred dividend and interest on debentures are 

contractually determined, in most cases as a percentage of the par values of the instruments. To the extent to 

which preference shares have some characteristic of common shares and as well some features of debentures, 

we can refer to them as hybrid securities. 

Cost of Irredeemable Preference Shares Capital 

Preference shareholders receive a type of dividend called preference dividend. The cost of preference capital 



 

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must, therefore, be related to the expected dividend of the holders of this kind of shares. Thus, the cost of 

preference shares in this instant will be given by, 

o

p

p
P

D
K 

             (47)

 

Where 

 Kp = Cost of preference capital 

 Dp = Preference dividend, usually fixed 

 Po = Current page per preference share 

 

 

)(
2

1

)](
1

[

PF

PF
n

D

K
p

p





               (48) 

Cost of Eternal Equity Capital 

Using the dividend model, the underlying principle relevant to us here is that the price of the shares of a 

company is determined by the expected returns by its shareholders. These returns are composed of the expected 

stream of dividends (Ezirim, 2005). Given the growth in dividend expectation at a rate g, the value of the shares 

is given by: 

n

e

n

ee

o
K

D

K

D

K

D
P

)1(
......

)1()1( 2

21








          (49) 

Where Po = Present value of the share, Ke is the cost of equity capital, and D1, D2 ….. Dn is the stream of 

dividends from period 1 to n. applying the growth rate g concept, expression (49) turns to: 

n

e

n

ee

o
k

gD

K

gD

K

gD
P

)1(

)1(
.......

)1(

)1(

)1(

)1( 0

2

2

0

1

0














          (50) 

Expression (17.10) can be generalized into: 




 




n

t
t

e

t

o
o

K

gD
P

0 )1(

)1(
                (51) 

Where Do = Dividend at time zero, and g is the growth rate which in this case is considered perpetual. 

A look at expression of the equations above reveals that the cost of equity, Ke, is the rate of return, which 

equates the two sides of the equation (Ezirim, 2005). Thus, it has been defined as the required rate of return, 

which equates the present value of the expected dividends with the market value of the share (Pandey, 1979). If 

we decompose expression (51) we get 

 
gK

D

gK

gD
P

ee

o






 10 )1(

              (52) 

We can further solve for Ke in (17.12) to have 



 

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 g
P

D
K

o

e  1                  (53) 

Cost of equity under zero growth rate in dividend 

For a firm that operates dividend policy of 100% pay-out ratio, i.e. an all dividend firm there is no expectations 

as to growth in both earnings and dividends, such that g = 0, under this situation the cost of equity will be given 

as 

 ;
o

e
P

D
K   where g = 0               (54) 

Upon closer observation on expression (54) we see that the R.H.S is the ratio of dividend to the price. Thus, the 

cost of equity under a 100% dividend payout ratio is equal to the dividend-price ratio. 

Floatation Cost in Equity Issue 

The cost of eternal equity or new issue of ordinary shares is normally adjusted for floatation costs. Like we 

stated earlier, floatation costs are associated with new issue of securities. Floatation costs have a way of 

restricting the company from realizing the full market value per share. Thus, the company must relinquish a part 

of the share price as floatation costs (Ezirim, 2005). Thus, if we denote this fraction of the share price as f , then 

the cost of new issue of equity share will be given by 

  g
fP

D
K

o

e 



)1(

1               (55) 

Using the Earnings Model 

The cost of equity can be computed using the earnings model. In this model the cost of equity can be derived as 

the earnings per share to the current market price per share. Thus, 

  

o

e
P

E
K 1                 (56) 

Retained Earnings 

The cost of retained earnings is given by the same formula as in expression (56) since it is the expected return 

by the ordinary shareholders on their investment. Thus, 

  g
P

D
K

o

r                  (57) 

From the above, it seems that Ke is equal to Kr. This can only be true if there is no withholding tax on dividend, 

personal tax, brokerage, costs, and floatation costs of new issues. Adjusting for all these, we can use expression 

(57) below to compute cost of retention. Kr: 

  Kr = Ke(1-tp)(1-B)               (58) 

Where 

 Kr = required rate of return on retained earnings 

 Ke = shareholders required rate of return 



 

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 tp = personal tax rate of shareholders 

 B = percentage brokerage cost. 

Convertible Securities 

A convertible security is used to describe a bond, debenture or preference share, usually unsecured, that has the 

element of being converted into equally after an agreed time at a specified price or at the ruling market price at 

the time of such conversion. It can be termed equity deferred. The expected stream of receipts from a 

convertible security includes the relevant interest or preference dividend and the expected conversion price 

(Ezirim, 2005). The expected conversion price it has been argued, relates to the expected future market price per 

equity share at some future date, multiplied by the number of common shares into which the security should be 

the discount rate that equates the after-tax interest (or preference dividend) plus the expected conversion price 

with the issue price of the convertible security (Pandey, 2005) the cost can be found using expression below. 

 
n

e

n
n

t
t

e

c
K

C

K

tI
V

)1()1(

)1(

1 









             (59) 

Where 

 Vc = Issue price of convertible bond at time 0. 

 I = Annual interest payments 

 t = Corporate tax rate 

 n = Time horizon for conversion price at the end of the nth period 

 Cn = Expected conversion price 

If the security is preference capital, than our I factor will change to Dp and the tax factor (1-t) will disappear to 

have. 

 Vc n

e

n
n

t
t

e

p

K

C

K

D

)1()1(1 







             (60) 

The cost of convertible security Kc can be calculated from (17.19) and (17-20), as applicable, using the trial and 

error method. 

Empirical Review 

Anyamaobi and Lucky (2017) examined corporate characteristics and value creation of quoted manufacturing 

firms in Nigeria. The objective was to examine if factors within the control of management affects corporate 

value. Cross sectional data was sourced from financial statement of twenty quoted manufacturing firms. Market 

value was proxy for dependent variable while asset tangibility, return on investment, risk, liquidity, firm size, 

debt equity ratio, dividend payout ratio, retention ratio, corporate governance, management efficiency and cost 

of capital was proxy for independent variables. After cross examination of the validity of the pooled effect, fixed 

effect and the random effect, the study accepts the fixed effect model. Findings reveal that assets tangibility, 

return on investment, debt equity ratio, retention ratio, management efficiency and cost of capital have positive 

effect on the market value of the quoted manufacturing firms while risk, liquidity, firm size and corporate 

governance have negative effect on the market value.  

Bitro and John, (2001)  aimed at finding out the effect of growth opportunities on debts risks and cost which 

will lead to finding a new debt cost and that utilizing the growth opportunities well lead to overcoming 

investment problem partially. The study also indicated that high risk debts might discourage investment, because 



 

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it was found that the relationship in some companies was negative.  

Braunstein (2002) conducted a study addressing capital cost in communication and facilities sector at California, 

and studied the relationship between cost of capital invested in local rural areas communication and expected 

return. The study revealed that return on owner's equity increased during the study period from 11.8% to 13.4% 

and return on investment for the same period increased from 6.84% to 9.11%.  

Kareem (2006) conducted a study examining and assessing the relationship between capital cost using weighted 

average capital cost and market returns for shares as well as identifying type and nature of the relationship 

between financing cost and market returns for shares in addition to and share market return, on a sample of (37) 

industrial companies for the period 1994 – 2004. The study revealed a significant relationship between weighted 

average capital cost and stocks market returns, where external (debt) financing has more affection stocks market 

return compared to internal (owned) financing.  

Abdel (2008) attempted to find out the effect of financing decision on institutions' financial performance and tax 

and financing cost effects. The study showed that positive financial performance is contingent on the institution 

ability in forming the optimal mix of financial structure, the extent to which available financing resources are 

used in a pace equal to its economic assets turnover to assure forming a wealth, and increasing growth rate, 

which finally results in maximizing the corporation value meanwhile financial structure is considered as basic 

element in assessing and measuring corporate financial performance as it is difficult to talk about an economic 

corporation without financial structure.   

P-Eriotis, Frangouli and Ventoura (2011) found that firms financed with equity are more profitable as compare 

to those financed by debt. If debt amount is high than a part of its profits is given as interest which ultimately 

reduces its profits. Capital structure choice has vital importance. Debt to equity ratio is used in order to examine 

its impact on firm’s profitability. Fixed effect model and random effect model are used. It is analyzed that debt 

negatively impacts a firm’s profitability because mostly the cost of debt is high than profits of the firm. They 

also concluded that firms liked to compete with one and another rather than cooperating. 

3. Research Methodology 

Descriptive and longitudinal design was employed with a view to making statistical inferences on factors that 

determine corporate earnings of the quoted firms. A  Sampling frame of 20 quoted firms was selected using 

random sampling techniques. The required cross-sectional data were sourced from annual reports of the firms and 

stock exchange factbook from 2011-2016. 

Analytical Framework and Empirical Model Specification 

This analysis is carried out within a panel data estimation framework. The preference of this estimation method 

is not only because it enables a cross-sectional time series analysis which usually makes provision for broader 

set of data points, but also because of its ability to control for heterogeneity and endogencity issues. Hence panel 

data estimation allows for the control of individual-specific effects usually unobservable which may be 

correlated with other explanatory variables included in the specification of the relationship between dependent 

and explanatory variables (Hausman and Taylor, 1981). The basic framework for panel data regression takes the 

form: 

(61) 

 

In the equation above, the heterogeneity or individual effect is 
iZ  which may represent a constant term and a 

itiitit ZXY   ,,



 

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set of observable and unobservable variables. When the individual effect iZ ,
contains only a constant term, 

OLS estimation provides a consistent and efficient estimates of the underlying parameters (Kyereboah-Coleman, 

2007); hut if iZ
,

 is un-observable and correlated  

with itX , then emerges the need to use other estimation method because OLS will give rise to biased and 

inconsistent estimates. 

Similarly for endogeneity issues, it is generally assumed that the explanatory variables located on the right hand 

side of the regression equation are statistically independent of the disturbance it  such that the disturbance 

term it  is assumed to be uncorrelated with columns of’ the parameters itX  and itZ  as stated in equation 

(1), and has zero mean and constant variance  2
(Hausman and Taylor, 1981). If this assumption is violated, 

then OLS estimation will yield biased estimates of the underlying parameters of  (Mayston, 2002).Hence, 

endogeneitv problems arise when the explanatory variables are correlated with the disturbance term 

it (Mayston, 2002; Hausman and Taylor, 1981). In order to circumvent these problems, panel estimation 

techniques of fixed and random effects will be adopted in this study, in addition to the traditional pooled 

regression estimation. Decisions will be made between the fixed and random effect models using the Hausman 

specification test. The panel model for the study is specified base on the modified model of Lawal, Edwin, 

Kiyanjui and Kayode (2014). 

itiitit ZXY   ''
               (62)

 

Where: 

Y = dependent variable 

D = independent variable 

o  = intercept 

i  = coefficient of the explanatory variable 

e = error term 

I = cross-sectional variable 

T = time series variable 

Model I: Short Term Cost of Capital  

Pooled regression specification 

)63(144332211 itititiii CBACCPCBLCTCoEPS    

 

 



 

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Fixed Effect Model Specification 

)64(111 9

544332211 itiiitititiii idumRRCBACCPCBLCTCoEPS     

Random effect model specification  

)65(1144332211 ititititiii iCBACCPCBLCTCoEPS    

Where 

EPS = Earnings Per Share 

CTC = Cost of Trade Credit 

CBL = Cost of Short Term Bank Loans 

CCP = Cost of Commercial Paper  

CBA = Cost of Bankers Acceptance 

1   =  Stochastic or disturbance/error term.  

t  =  Time dimension of the variables  

α 0  =  Constant or intercept.  

Model II: Medium Term Cost of Capital 

Pooled regression specification 

)66(144332211 itititiii COLCHPCRCCLCoEPS    

Fixed Effect Model Specification 

)67(111 9

44332211 itiiitititiii idumCOLCHPCRCCLCoEPS     

Random effect model specification  

ititititiii iCOLCHPCRCCLCoEPS 1144332211  
      (68) 

Where 

EPS = Earnings Per Share 

CLC = Cost of Line of Credit 

CRC = Cost of Revolving Credit 

CHP = Cost of Hire Purchase 

COL = Cost of Operating Lease 

1   =  Stochastic or disturbance/error term.  

t  =  Time dimension of the variables  

α 0  =  Constant or intercept.  

Model III: Cost of Long Term Capital 

Pooled regression specification 

ititiii CECPSCDoEPS 1332211              (69) 

Fixed Effect Model Specification 

itiiititiii idumCECPSCDoEPS 111 9

332211   

        (70)

 

Random effect model specification  

itititiii iCECPSCDoEPS 11332211  
          (71) 

Where 

EPS = Earnings Per Share 



 

Cost of Capital and Corporate Earning of Nigeria Quoted Firms: A Multi-Dimensional Analysis of Quoted 

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CD = Cost of Debt 

CPS = Cost of Preference Share Capital 

CE = Cost of Equity 

1   =  Stochastic or disturbance/error term.  

t  =  Time dimension of the variables  

α 0  =  Constant or intercept.  

4. Presentation and Analysis of Results 

Table 1: Short Term Cost of Fund and Corporate Earnings 

The effect of short term cost of capital and corporate earnings of the quoted firms is presented in the table 

below: 

Effects Test Statistic   d.f.  Prob.  

Cross-section F 2.610975 (9,45) 0.0162 

Cross-section Chi-square 24.789052 9 0.0032 

Hausman Test  

Cross-section random 2.547784 4 0.0001 

Source: Computed by Researcher from E-view 9.0 

The Hausman test is used in panel data to ascertain the most appropriate model. This test was conducted on the 

effect of short term cost of capital and corporate earnings of quoted firms in Nigeria as reported in the table 1 

above. The p-value obtained from Hauseman test was significant; therefore the fixed effects model was the most 

appropriate model. 

From the table the R-square and the adjusted R-square proved that 43.9% and 39.7 variation on corporate 

earnings can be explained by the variation on the cost of various component of short term cost of capital. The 

F-statistic value of 10.56582 and the probability of 0.000002 (P<0.05) shows that the independent variables are 

jointly statistically significant in explaining changes in the dependent variable. Specifically, the results from the 

table show that all the independent variables have positive impact on corporate earnings. The β coefficient of 

0.07CTC, 0.05CCP, 0.59CBL and 1.93CBA proved that a unit increase on the variables will lead to 0.7%, 0.5%, 

Variable  Pooled Effect Fixed  effect Random effect 

 
 coefficient  

T. stat p. value 
 coefficient 

T. stat p. value 
 coefficient 

T. stat p. value 

CTC 0.148625 1.507153 0.1376 0.078310 0.604458 0.5486 0.113456 1.016388 0.3140 

CCP -0.192515 -1.607329 0.1138 0.052741 0.341880 0.7340 -0.062976 -0.470742 0.6397 

CBL 0.622104 5.390628 0.0000 0.594419 4.236145 0.0001 0.621364 4.983027 0.0000 

CBA 1.795160 1.289044 0.2029 1.930450 1.463949 0.1502 1.903991 1.471854 0.1469 

C 4.587419 2.231603 0.0298 2.965692 1.204819 0.2346 3.532629 1.590599 0.1175 

R2 0.439038   0.631479   0.360257   

AdjR2 0.397486   0.525017   0.312868   

F-stat 10.56582   5.931506   7.602212   

 F- Prob 0.000002   0.000003   0.000062   

D W  1.094674   2.139366   1.773717   



 

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5.9% and 19.3% increase on the dependent variables. The T-statistics and the probability value shows that only 

commercial banks short term cost of capital is statistically significant while others are statistically not significant 

at 5% level of significance. The insignificant impact of the variables could be traced to the fact that the 

companies do not utilize some of the credit facilities in Nigeria. The positive effect of the variables are contrary 

to the expectation of the results and could be traced to the fact that the management formulate policies that will 

hedge against the negative impact of cost of capital on corporate earnings. This findings confirms the findings of 

Osiegbu (2005) on the positive effect of interest rate and commercial bank credit which he blamed  

unstructured nature of the financial market that does not give borrowers alternative source of funding. 

Table 2: Medium Term Cost of Fund and Corporate Earnings 

The effect of medium term cost of capital and corporate earnings of the quoted firms is presented in the table 

below 

 

Source: Computed by Researcher from E-view 9.0 

The Hausman test is used in panel data to ascertain the most appropriate model. This test was conducted on the 

effect of medium term cost of capital and corporate earnings of quoted firms in Nigeria as reported in the table 2 

above. The p-value obtained from Hauseman test was not significant; therefore the random effects model was 

the most appropriate model. 

From the table the R-square and the adjusted R-square proved that 7.1% and 0.2% variation on corporate 

Variable  Pooled Effect Fixed  effect Random effect 

 
 

coefficient  

T. stat p. value 
 coefficient 

T. stat p. value 
 coefficient 

T. stat p. value 

CRC 0.031876 0.455749 0.6504 -0.089468 -1.326536 0.1914 -0.059849 -0.928629 0.3572 

CLC -0.005308 -0.133859 0.8940 -0.026842 -0.842099 0.4042 -0.021463 -0.679823 0.4995 

CL 0.091047 0.603850 0.5485 0.233101 1.787617 0.0806 0.201724 1.579846 0.1200 

CHP 0.006578 0.177444 0.8598 -0.011139 -0.334829 0.7393 -0.005666 -0.175118 0.8616 

C 11.74427 18.79303 0.0000 12.17721 22.19156 0.0000 12.05265 19.07939 0.0000 

R2 0.010604   0.515421   0.071086   

AdjR2 -0.062685   0.375432   0.002277   

F-stat 0.144687   3.681857   1.033094   

 F- Prob 0.964582   0.000543   0.398680   

D W  1.257586   2.296105   1.992811   

Redundant Fixed Effects 

Tests  

Effects Test 

Statistic   d.f.  Prob.       

Cross-section F 5.208824 (9,45) 0.0001      

Cross-section Chi-square 42.115058 9 0.0000      

Correlated Random Effects - Hausman Test       

Cross-section random 2.714876 4 0.6066      



 

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earnings can be explained by the variation on the cost of various component of medium term cost of capital. The 

F-statistic value of 1.0398680 and the probability of 0.398680 (P>0.05) shows that the independent variables are 

jointly statistically not significant in explaining changes in the dependent variable. Specifically, the results from 

the table show that all the independent variables have positive impact on corporate earnings. The β coefficient of 

-0.59CRC, -0.02CLC, 0.201CL and -0.006CHP proved that a unit increase on the variables will lead to 5.9%, 

0.2%, 0.6% decrease on the dependent variables while the positive coefficient of 0.201CL will lead to 2.0% 

increase on corporate earnings. The T-statistics and the probability value shows that all the medium term cost of 

capital is statistically not at 5% level of significance. The negative effect of   the variables, the littlie explained 

variation and   insignificant impact of the variables could be traced to the fact that the companies do not utilize 

some of the credit facilities in Nigeria. The positive effect of the variable is  contrary to the expectation of the 

results and could be traced to the fact that the management formulate policies that will hedge against the 

negative impact of cost of capital on corporate earnings while the negative effect confirm the a-priori 

expectation of the results, this findings confirm the findings of  Bitro and John, (2001)  that high risk debts 

might discourage investment, because it was found that the relationship in some companies was negative.  

Table 3: Long Term Cost of Fund and Corporate Earnings 

Effects Test Statistic   d.f.  Prob.  

Cross-section F 3.708518 (9,46) 0.0015 

Cross-section Chi-square 32.188216 9 0.0002 

Correlated Random Effects - Hausman Test  

Cross-section random 8.024643 3 0.0055 

Source: Computed by Researcher from E-view 9.0 

The Hausman test is used in panel data to ascertain the most appropriate model. This test was conducted on the 

effect of long   term cost of capital and corporate earnings of quoted firms in Nigeria as reported in the table 3 

above. The p-value obtained from Hauseman test was significant; therefore the fixed effects model was the most 

appropriate model. 

From the table the R-square and the adjusted R-square proved that 81.9% and 77% variation on corporate 

earnings can be explained by the variation on the cost of various component of short term cost of capital. The 

Variable  Pooled Effect Fixed  effect Random effect 

 
 coefficient  

T. stat p. value 
 coefficient 

T. stat p. value 
 coefficient 

T. stat p. value 

CD -0.001159 -1.201734 0.2346 -0.000534 -0.615593 0.5412 11.24348 13.53105 0.0000 

CPS 0.447321 2.412354 0.0192 0.291708 1.664693 0.1028 -0.000534 -0.615593 0.5412 

CE -0.126445 -0.964121 0.3392 -0.060452 -0.459210 0.6482 0.291708 1.664693 0.1028 

C 10.86029 13.32330 0.0000 11.24348 13.53105 0.0000 -0.060452 -0.459210 0.6482 

R2 0.819022   0.489460   0.489460   

AdjR2 0.770969   0.356275   0.356275   

F-statistic 12.47687   3.675052   3.675052   

 F- Prob 0.000000   0.000669   0.000669   

D W  1.519769   2.266686   2.266686   



 

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F-statistic value of 12.47687and the probability of 0.000000 (P<0.05) shows that the independent variables are 

jointly statistically significant in explaining changes in the dependent variable. Specifically, the results from the 

table show that cost of debt and cost of equity have  negative effect on corporate earnings while cost of 

preference share capital have positive effect on the dependent variable. The β coefficient of -0.00CD, 0.29CPS, 

-0.060 proved that a unit increase on the variables will lead to 0.0%  and 0.6%, decrease on the dependent 

variables while the positive coefficient of 0.29CPS will lead to 2.9% increase on the corporate earnings of the 

quoted firms. The T-statistics and the probability value show cost of debt is statistically significant while cost of 

preference share capital and equity is statistically not significant at 5% level of significance. While the positive 

effect of the variable is contrary to the expectation of the results, the negative effect confirms the a-priori 

expectation of the results and validates the findings of Anyamaobi and Lucky (2017) on the positive effect of 

cost of capital on the value creation of quoted manufacturing firms in Nigeria.   

5. Conclusion and Recommendation 

This study investigated the relationship between cost of capital and corporate earnings of 20  firms listed on the 

floor of Nigerian stock exchange using time series data from 2011 – 2016. Cost of capital was disaggregated by 

short, medium and long term while corporate earning was proxy by earnings per share. From the findings of the 

study, we draw the following conclusion: 

 That the relationship between costs of short term capital is statistically significant with corporate 

earnings, the model summary shows that the independent variables could only attest 63.1% and 52.5% 

variation while the F-statistics shows that the model is statistically significant.  

 That the relationship between costs of medium term capital is statistically not significant with corporate 

earnings,  the model summary shows that the independent variables could only attest 7.1% and 0.2% 

variation while the F-statistics shows that the model is statistically not significant. 

 That the relationship between costs of long term capital is statistically significant with corporate 

earnings, the model summary shows that the independent variables could only attest 81.9% and 77.0% 

variation while the F-statistics shows that the model is statistically significant.  

Recommendation 

 Management should formulate internal policy that will enhance the realization of optimal capital 

structure of the firm which determines the combination of equity capital and debt capital as the capital 

structure of the firm and the business environment should be well diagnosed and tactical measures used 

to ensure that cost of capital does not affect the investment decision of the firms and the profitability.  

 The environmental factors should be acknowledged in formulating cost of capital to avoid risk 

associated with inadequate or wrong capital structure of the firm to enhance profitability and external 

source of capital such as debt should be properly appraised and integrated with the investment policy of 

the firms to leverage the high cost of debt and its effect on investment and profitability. 

 Cost of equity should be integrated with the objective of maximizing shareholders’ wealth through 

investment policies and the regulatory authorities should formulate policies of minimizing the cost of 

capital on the investment decision of the listed firms. 

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