What is the required rate of return - RRR?
The required rate of return is the minimum return that an investor would accept to own a company's shares, as compensation for a certain level of risk associated with holding the share. The legal support rate is also used in corporate finance to analyze the profitability of potential investment projects.
The required rate of return is also known as the obstacle rate, which like RRR, denotes the appropriate compensation needed for the current level of risk. More risky projects usually have higher obstacle or repeat request rates than less risky ones.
The formula and calculation of RRR
There are two methods of calculating the required rate of return. If an investor is considering buying equity shares in a dividend-paying company, the dividend-discount model is ideal. The dividend discount model is also known as the Gordon Growth Model.
Dividend Distribution Model - Discount to Equity Ratio for dividend stock is calculated by using the current share price, dividend payout per share, and projected earnings growth rate. The formula is as follows:
RRR = \ frac {\ text {expected dividend payment}} {\ text {participation rate}} + \ text {expected earnings growth rate} RRR =
Share price
Expected dividends
+ Projected profit growth rate
Calculate RRR using the profit discount model.
Take the expected dividend payment and divide it by the current share price.
Add the result to the expected profit growth rate.
How to calculate the required rate of return
Another way to calculate RRR is to use the Capital Asset Pricing Model (CAPM), which investors typically use for stocks that do not pay dividends.