Question

Question 5 (16 marks) Incarius Ltd has asked you to estimate the WACC for their company. You have collected the following information: The return on risk-free Australian Government Bonds is 2.5% p.a Incarius Ltd has 1,000,000 shares outstanding and its shares are currently trading at $5.50 per share. Beta of Incarius Ltd shares is 1.3, and the expected return on the market is 10.5% Incarius Ltd has 8 million preference shares outstanding at a current price of $11 per share. Preference shares pay a constant dividend of 70 cents per year Incarius Ltd also has $350 million in bank loans. These loans have a variable interest rate which is currently 4.5 % compounded annually. The company faces a 30% corporate tax rate. Compute the WACC for Incarius Ltd. (16 marks)

Answer 1

1. Cost of Equity = Risk Free Rate + Beta * (Market Premium)

Cost of Equity = 2.50% + 1.30 * (10.5% - 2.50%)

Cost of Equity = 12.90%

After Tax Cost of Debt = Before Tax Cost of Debt * (1 - Tax)

After Tax Cost of Debt = 4.50% * (1 - 0.30)

After Tax Cost of Debt = 3.15%

Cost of Preferred Stock = Dividend / Current Price = 0.70 / 11 = 6.36%

Computation of WACC

B C D 1 Incarius LTD WACC 2 Particluars Market Value Weights After Tax Cost Weighted Cost 3 Equity $55,00,000.00 12.90% 0.16% 0.01 $35,00,00,000.00 5 Preferred Stock $ 8,80,00,000.00 2.49% Debt 3.15% 4 0.79 6.36% 1.26% 0.20 $44,35,00,000.00 100.00 % 3.91% WACC 7 n

A В D Incarius LTD WACC 2 Particluars Market Value Weights -B3/ $B$6 -B4/$B$6 - B5 / $ B$ 6 -SUM(C3:C5) Weighted Cost |ЕC3*D3 After Tax Cost - 1000000*5.5 0.129 Equity 0,0315 4 Debt -C4*D4 350000000 = 8000000*11 5 Preferred Stock 0.0636 -C5*D5 -SUM(E3:E5) -SUM (B3: B5 ) WACC 6