Golden State Home Health, Inc., is a large, California-based for-profit home health agency. Its dividends are expected to grow at a constant rate of 5 percent per year into the foreseeable future. The firmâ€™s last dividend (D0) was $1, and its current stock price is $10. The firmâ€™s beta coefficient is 1.2; the rate of return on 20-year T-bonds currently is 8 percent; and the expected rate of return on the market, as reported by a large financial services firm, is 14 percent. Golden Stateâ€™s target capital structure calls for 60 percent debt financing, the interest rate required on its new debt is 9 percent, and the firmâ€™s tax rate is 30 percent.
a. What is the firmâ€™s cost of equity estimate according to the DCF method?
b. What is the cost of equity estimate according to the CAPM?
c. On the basis of your answers to Parts a and b, what would be your final estimate for the firmâ€™s cost of equity?
d. What is your estimate for the firmâ€™s corporate cost of capital?