Question

The finance manager of ABC ltd has computed the after tax marginal costs of the company;s three sources of capital ordinary shares-600000 at a cost of 14%600000-1500000 at a cost of 17%over 1500000 at cost of 18%preference shares0-300000 at a cost of 12%over 300000 at a cost of 13%debts0-1000000 at a cost of 5%over 1000000 at a cost of 8%the manager wants to maintain the current present capital structure of 50% debt , 10% preference shares and 40% ordinary shares.Requiredi) the break point in the capital structure (ii) the weighted average cost of capital between breakpoints iii) draw the weighted marginal cost of capital schedule

Answer 1

ordinary shares	Cost of equity	prefference shares	cost of Pref shares	Debt	after tax cost of debt
0-600,000	14%	0-300,000	12%	0-1,000,000	5%
600,000-1,500,000	17%	300000 above	13%	abv 1,000,000	8%
above 1,500,000	18%
capital structure	40%		10%		50%

1	the break point is:
	break point is the point whre the capital amount of capital changes as a structre
	here it can be seen that it happens so in first case
	the break point is:	(600000+300000+100000)=	$                 1,900,000

2	WACC= {kd (1-t)*debt/ debt+ equity}+ {ke*equity/debt+ equity}
	WACC 1=(0.14*0.40)+(0.12*0.10)+(0.05*0.50)	9.30%
	WACC 2= (0.17*0.40)+(0.13*0.10)+(0.08*0.50)	12.10%

it can be seen that the company can invest upto $1900000 at 9.30%

amd if it increases its capital, the WACC will increase to 12.10%

3.