Question

The following is an extract from the balance sheet of Mapalo International Plc at 30 June 2006 K'000 Ordinary shares at 50n each 5,200 Reserves 4,850 9% Preference shares at K1 each 4,500 14% Debentures 5,000 Total long term funds 19,550 The ordinary shares are quoted at Bon. Assume that the market estimate of the next ordinary dividend is 4n, growing thereafter at 12% per annum indefinitely. The preference shares, which are irredeemable, are quoted at 72n and the debentures are quoted at par. Company tax is 35% A) You are required to use the relevant data above to estimate the company's weighted average cost of capital (WACC"), ie, the return required by the providers of the three types of capital, using respective market values as weighting factors B) You are required to explain how the capital asset pricing model would be used as an alternative method of estimating the cost of equity indicating what information would be required and how it would be obtained C) Assume that the debentures have recently been sund specifically to fund the company's expansion programme under which a number of projects are being considered. It has been suggested at a project appraisal meeting that because those projects are to be financed by the debentures, the cut off rate for project acceptance should be the after tax rate on the debentures rather than WACC You are required to comment on this suggestion

Answer 1

a. Cost of Fauity Divata fo Gorros sob 4 12.30 Rotonina 2012 . . O S:)at 121.7 njeno 1903.) 1701012 b601 cost of preferences Dividend ROOMS alandt 72 [ 12.5% C. cost debt = 14%* (1-t) = 14%. C 1 -0.352 . .SOR L19,10%) VOIR . balacca (8320X17) +63240x 12.5 + (3000x 9 169560 13.73.40

(B2 accooding to Capital Asset Pricing model cost of Ecwty. the = Rft B CRM-Rf) Rf = Risk free oute Normauy the Rute of tresury bills issued by central bank of country. - B = Beta shows the Relation of stock with the Market Portfolio if beta is more than 1 than storie is more risky than munket & if it is less than a Stock is less Risky than Manket bota can be calculated a Covariance Crkt, Stick) Variance (1967) Rm a it is rette of Retuin m 2 ray kot podtfolio Normcury AROUB of Return of d benen mouk indexo No, this is not correct suggestion because However now pooject iš financed by Debt mly but such increase in Debt will inoroase the risk of Fauity share holders & Due to wihich cost of Equity will increased So, such issue will have to be taken by WACG.

I hope my efforts will be fruitful to you....?