If dividends paid to common stockholders are not legal obligations of a corporation, is the cost of equity zero? Describe your answer.
Even though common stockholders do not comprise a contractual claim on dividends the funds supplied through stockholders absolutely have a cost. Equity investors are paid last and thus they are taking the utmost risk among all the suppliers of capital. If the company does not get a higher rate of return on equity funds to compensate for the higher risk taken by equity investors, than the price of the stock will fall and hence the value of the firm.