Question

COST OF CAPITAL You are the Finance Director of Kakrayebedi Limited. You have been asked to estimate the return required by the company's shareholders, using the following information: Rate of Return on T-Bills 1596 Return on the GSE All-Share Index: 22.5% Equity Beta for Kakrayebedi0.8 The most recent dividend paid is GHe300 Share price GHe4,000 Dividend growth rate p.a.12% Required: Estimate the cost of equity capital, using the (i) dividend valuation model, and the (ii) CAPM. Activity Solution (i) Dividend Valuation Model R = [(D1/Po) x 1001 + g R: {[(300 x1.12) /4,000] x100}+12% R2 8.496 + 12% 20.4% (ii) CAPM R Rf +b(Rm-R) 15+[0.8 x (22.5-15] 15 6 In exams, calculate the cost of equity using whichever model, (DVM or CAPM) for which information is provided. However, watch out for a situation where you have sufficient information to use both models. In such circumstances, calculate Ke from both models. Expect your two estimates to give you approximately the same answer for Ke

Answer 1

WACC = E x Re + D x Rd x (1-Tc)

V V

Self Assessment One WACC GHc23m x0.22+ GHe12.5m x0.12 (1-0.25) Where GHe 35.5m GHe 35.5m Market Value of Firm's EquityGHe23m Market Value of Firm's Debt GHe 12.5m 0.1425 0.0317 0.1742 17.42% Re- Rd = Tc- Cost of Equity Cost of Debt Tax Rate GHe 35.5m 22% 12% 25%