Question

Compute the cost for the following sources of financing for PeroLima Berhad. PeroLima has debt outstanding and its pre-tax cost of debt is 10 % and the corporate tax rate is 30%. What is after-tax cost of debt? а. (2 Marks) If PeroLima beta is 1.2, the risk-free rate is 9% and the market risk premium is 5% What is Ketupat Palas's cost of common shares? b. (3 Marks) PeroLima is financed RM170,000 with equity and RM30,000 with debt. By using your calculation in part (a) and (b), compute PeroLima's weighted average cost of capital (WACC) С. (3 Marks) PeroLima is considering a project that will bring rate of return of 12%. Should PeroLima proceed with this project? Explain you answer d. (2 Marks)

Answer 1

a.after tax cost of debt =pre tax cost *(1 - tax rate)

=>10%*(1-0.30)

=>7%.

b.

cost of common shares = risk free rate + beta*(market premium)

=>9%+1.20*(5%)

=>15%.

c.

Calculation of WACC:

source	amount	weight	cost	weight * cost
equity	170,000	(170,000/200,000)=>0.85	15%	0.85*15%=>12.75%
debt	30,000	(30,000/200,000)=>0.15	7%	0.15*7%=>1.05%
	200,000	1	WACC	13.80%

d.Reject the project.

Since the return of project 12% is less than the WACC of 13.80%,the project shall not be proceeded with.