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Medical Associates is a large for-profit group practice. Its dividendsare expected to grow at a constant rate of 7 percent per year into theforeseeable future. The firm’s last dividend (D0) was $2, and its currentstock price is $23. The firm’s beta coefficient is 1.6; the rate of returnon 20-year T-bonds currently is 9 percent; and the expected rate of return on the market, as reported by a large financial services firm, is13 percent. The firm’s target capital structure calls for 50 percent debtfinancing, the interest rate required on the business’s new debt is 10percent, and its tax rate is 40 percent.a. What is Medical Associates’s cost of equity estimate according to theDCF 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 yourfinal estimate for the firm’s cost of equity?d. What is your estimate for the firm’s corporate cost of capital?
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