Combined Individual Assignment (1-4)

Module 3

Cost Of Capital

1. The following particulars relate to Ambuja Ltd:

Equity share Capital 1,00,000 shares of Rs.10 Rs.10,00,000

Profit after tax Rs.9,00,000

Current market price of equity share Rs.75

Calculate the cost of equity.

2. Reliance company’s share is quoted in the market at Rs 40 and the

expected dividend for the next year is Rs. 2 per share. Thereafter
the investor expect a growth rate of 5%p.a.

a) Calculate the cost of equity.

b) Calculate the market price per share if the expected growth

rate is 6%p.a.

c) Calculate the market price per share if the dividend of Rs2 per
share is maintained, the cost of equity is 9% and the expected
growth in dividend is 6%p.a.

3. The capital structure of the company and the after tax cost of
different sources of funds are given below:

Sources of funds Amount Proportion After tax

cost%
Equity share 7,20,000 .30 15
capital
Retained earnings 6,00,000 .25 14
Preference share 48,00,000 .20 10
capital
Debentures 6,00,000 .25 8

You are required to compute the weighted average cost of capital.

4. From the following capital structure of a company calculate the
overall cost of capital using a). Book value weights b). Market value
weights

Source Book value (Rs.) Market value (Rs.)

Equity share capital 45000 90000
Retained earnings 15000 -
Preference share 10000 10000
capital
Debentures 30000 30000

The after tax cost of different sources of finance is as follows: equity

share capital 14%, retained earnings 13%, preference share capital
10%, debentures 5%.

5. The Protox company has the following capital structure on

30.06.2009

Ordinary shares (2,00,000 shares) Rs. 40,00,000

6% preference shares (10,000 Rs. 10,00,000
shares)
8% debentures Rs. 30,00,000
Total Rs. 80,00,000
The share of the company sells for Rs.20. It is expected that the
company will pay a dividend of Rs.2 per share which will grow at
7% forever. Tax rate is 50%.

a) Compute the WACC based on existing capital structure.

b) Compute the new WACC if the company raises an additional

Rs.2000000 debt by issuing 10% debenture. This would result
in increasing the expected dividend to Rs. 3 and leave the
growth rate unchanged. But the price of the share will fall to
Rs. 15 per share.

6. What is the relevance cost of capital in corporate investment and

financing decisions?

7. Assuming that the firm pays tax at a 50% rate, compute the after
tax of capital in the following cases:

a) A 14.5% preference share sold at par.

b) A perpetual bond sold at par coupon rate at 13.5%.

 c) A ten year 8% Rs.1000 per bond sold at Rs.950.

d) A common share selling at market price of Rs.120 and paying

a current dividend of Rs.9 per share which is expected to grow
at a rate of 8%.

8. Van products currently pays a dividend of Rs. 2 per share and this
dividend is expected to grow at a 15% annual rate for 3 years, ,
after it is expected to grow at a 5% rate forever. What value would
you place on the equity if 9% rate of return is required?

9. S.K. Verma is a investor who gets Rs.2.50 dividend per share and
whose dividends are expected to grow at 10% per year for the next
3 years and 7%

thereafter forever. The required rate of return on equity is 20%. Find

the value of the stock.

10. The risk free rate of return is 8%, the market has estimated
risk premium of 6% and the beta of the security is 1.5. Calculate the
required rate of return.

11. The following items are taken from the balance sheet of SS Lts as on
31st March 2008.

Paid Up Capital Amount (Rs.)

2,00,000 shares of Rs. 10 each 20,00,000

Reserves & Surplus 30,00,000

Loans:

12% Non convertible debentures 10,00,000

10% Bank Loan 40,00,000

 Earning per share is expected to be Rs. 6 in the next year. Current
market price of an equity share is Rs. 40.

a) Calculate after tax cost for each source of finance. Assume tax
rate of 50%

b) Calculate WACC using book value as weights.

Calculate WACC using book value as weights

12. The market is giving an average return of 18%. The risk free
rate is 11%.

a) What return would be expected from an investment having

beta factor of 0.9?

b) Beta factor which would be necessary for an investment to

yield a return of 21.6%

13. Calculate cost of equity, cost of debt and WACC using the following
information (Pg 5.71 of PCT)

Capital Structure

a) Equity share capital Rs. 60,000

b) 12% Debentures Rs. 40,000

Other Information

a) Rate of return on risk free investment 10%

b) Rate of return on market portfolio 30%

c) Beta coefficient 0.5

d) Tax rate 40%

14. A company issues 12% irredeemable preference shares. Face

value of the share is Rs. 100. What is the cost of preference share if
(a) the issue price is Rs. 90 (b) the issue price is 110
15. Discuss briefly the factors that are relevant for determining the cost
of capital for the firm

16. “Book value weights should be preferred over Market value

weights for calculating Weighted Average Cost of Capital”. Explain
in favour or against this statement.

17. Suppose a firm has a current dividend payout ratio 60%, EPS
is Rs 12 which is expected to grow at a rate of 11% for next five
years and thereafter grow at a rate of 4% with the value of the stock
Rs. 139.65. what is the cost of equity?

18. M Ltd issued Rs.100 lakh 14% debentures of Rs.100 each

redeemable at a premium of 7% after 5 years. Calculate the cost of
debt if the debentures are issued at 10% premium with a floatation
cost of 5%. Assume the tax rate 30%.

19. V ltd issued Rs.100 lakh 11% preference shares each being
redeemable at the premium of 6% after 5 years. Calculate the cost
of preference shares. Assume the preference shares are issued at
par.