CASE16

CASE 18 Student Version

SOUTHEASTERN HOMECARE
Cost of Capital

This case illustrates the cost of capital estimation for a business with two divisions that
operate in diverse business lines.

The spreadsheet calculates the cost of debt based on the yield to maturity and the yield
to call of debt issues that are currently outstanding. It also calculates the cost of equity on
the basis of three models: CAPM, DCF, and Debt Cost + Risk Premium.

Students must use judgment when making the final estimates for the costs of debt and equity.
These estimates must be entered into the lower part of the INPUT DATA section to calculate
the corporate cost of capital. Divisional costs of capital can be estimated using the same
part of this spreadsheet, but with the appropriate divisional input data.

The model consists of a complete base case analysishowever, all values in the INPUT DATA
section of the student version have been replaced with zeros. Thus, students must determine
the appropriate input values and enter them into the model. These cells are colored red.
When this is done, any error cells will be corrected and the base case solution will appear.
Note that the model does not contain any risk analyses, so students will have to create
their own if required by the case. Furthermore, students must create their own graphics
(charts) as needed to present their results.

INPUT DATA: KEY OUTPUT:

Cost of Debt Input: Cost of Debt:

Years to maturity 15 YTM 8.0%

Annual coupon payment $75.00 YTC 9.8%
Current price $956.31
Par value $1,000.00
Years to call 5
Call price $1,075.00

Cost of Equity Input: Cost of Equity:

CAPM Approach:
Beta coefficient 1 CAPM 11.0%
Risk-free rate 5.0%
Required market return 11.0%
DCF Approach:
Stock price $5.25 DCF 13.6%
Last dividend paid $0.17
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Constant growth rate 10.0%
Debt Cost Plus RP Approach:
Risk premium 7.0% DC+RP 15.0%

Corporate Cost of Capital Input: Corporate Cost of Capital:

The component cost inputs below (not the output
above) are used to estimate the CCC.

Tax rate 40.0% CCC 7.6%

Weight of debt 35.0%
Weight of equity 65.0%
Final cost of debt estimate 7.2%
Final cost of equity estimate 9.3%

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quity on

t and equity.
o calculate
e same

INPUT DATA
st determine
ed red.
l appear.

graphics

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